MANAGEMENT INFORMATION SYSTEM
case study of
Rogue Currency Trades at Allied Irish Bank How Could It Happen? By Sagil S Nambiar (37) & Rais Click to edit Master subtitle style Mulani (36) A.I.I.A.I.M.S MMS-1 Div A
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Summary
AIB (Allied Irish Bank) US subsidiary, Allfirst Financial , on February 5 2002, had suffered a loss of a $750 million foreign exchanged trading loss. The accused John Rusnak, a foreign exchange trader, defrauded the bank of $750m by generating fictitious foreign exchange transactions. Rusnak executed a large number of transactions that involved buying and selling Japanese Yen and US Dollars. He appeared to offset the risk involved in these deals by 3/15/12 taking out options contracts.
In
mid-January to finance his enormous losses, Rusnak began asking for unusually large amounts of money, which triggered an investigation by senior staff members of Allfirst treasury department. On Thursday, January 31st Allfirst confronted Rusnak with falsified option trades. The next day he produced 12 paper confirmations to support those trades but they appeared to be fakes. At this point, the FBI was called upon and an investigation was underway. Rusnak initially disappeared but later co-operated with the FBI.
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Trading Strategy of John Rusnak
The
foreign currency market is the market that John Rusnak gambled and lost in. He used spot transactions, forward transactions and options to amass losses of $691 million. Mr. Rusnak proposed a trading strategy that sounded new and inventive. He told the management that he could consistently make more money by running a large option book hedged in the cash markets, buying options when they were cheap and selling them when they were expensive.
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The
Ludwig report, a report commissioned by AIB to determine the extent of John Rusnaks fraud, states that Mr. Rusnak promoted himself as a trader who used options to engage in a form of arbitrage, attempting to take advantage of price discrepancies between currency options and currency forwards. Mr. Rusnak placed large sum one-way bets that the yen would increase in value against the dollar. Specifically, he bought yen for future delivery, probably with forward contracts. As the yen declined, he could not go back on the forward contracts as they are binding, and was forced to take his losses. He did not hedge these bets with options 3/15/12
He
used many complicated schemes to hide his losses. They included falsification of documents, misuse of office technology, fraudulent entries in accounting systems and intimidation of office personnel. John Rusnak avoided detection by manipulating the banks Value at Risk (VaR) calculations.
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System before crises
The Ludwig report indicated that a weak control environment in Allfirst's treasury enabled Mr. Rusnak to carry out his deception. Control procedures were circumvented; Mr. Rusnak was able to take advantage of weak and inexperienced personnel. The inexperience, poor training, laziness, and poor supervision of these employees were also enabling factors. Management did not enforce its banking and trading guidelines, and procedures were not followed. As an example, Mr. Rusnak was 3/15/12 allowed to make trades during his vacations.
In
1998 AIB installed software from Misys in the U.K which could be control front and back office work during currency trades. Misys suite Tropics would captures currency trades electronically at the front desk. It also would catch trades that were over the limit. And the back office suite called Opics thanks all foreign exchange transaction. Together the two software packages provide Straight Through Processing enabling trades to be electronically fulfilled on the same day they are executed.
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AIB
installed Opics, the back office software, at Allfirst but no Tropics front office software was installed. Therefore Allfirst did not have Straight through Processing and the information on the trade was given to the back office manually. Allfirst also did not use crossmar to validate a trade and instead was supposed to rely on telephones. AIB used risk-management analytics software in order to evaluate the risk of a trade being considered. AIB installed Askaris RiskBook, which was later acquired by state street corporation and renamed Trueview. Allfirst did not use RiskBook(Trueview) relying instead on Monte carlo simulation software to calculate a currency trades risk. 3/15/12
System after crises
Allied
Irish Bank install new trading controls to prevent any future trade of this type. Management and control of Allfirst Treasury operations would be centralized in Dublin under the direction of the head of AIBs Capital Market Treasury. AIB also announced it would appoint an external senior expert to lead an internal investigation into the causes of the loss, including violation of internal controls and possible internal and external collusion.
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Workable
controls in any financial activities must include the separation of responsibilities. The organization must separate the duties between a front office, or trading desk, and the back office, which handles trade accounting and controlling, including enforcing credit limits. Traders can neither authorize accounts nor set them up nor authorize payments to outside clients.
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Conclusion
John Rusnak did perpetrate this fraud alone. He had no direct accomplices. However, there were many indirect accomplices. All those mentioned who did not report what they saw, allowed him to talk them out of doing their jobs, and trusted the status quo rather than ask questions to get to the truth assisted John Rusnak. Allfirst experienced problems that many corporations have. They had organizational political conditions influencing decisions. The fact that Allfirst 3/15/12
