Phantom trading scandal will cost GE dollars 350m: US investment bank dismisses managing director after uncovering false 'strips'

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The Independent Online
ANOTHER SCANDAL has hit the US Treasury market, this time involving 'phantom trading' at Kidder Peabody, the Wall Street investment bank, that will cost its parent, the US General Electric Company, dollars 350m ( pounds 243m) in pre-tax profits.

Kidder confirmed yesterday that it had dismissed Joseph Jett, the managing director in charge of its US government-securities desk, after discovering that hundreds of millions of dollars worth of trades in interest-rate 'strips' had been fabricated to inflate the firm's profits figures.

Wall Street reports suggested that Mr Jett, 36, allegedly created trading contracts that he would continually 'roll over' instead of settling, generating fictitious earnings that made his department appear extremely profitable on paper.

The alleged scheme would not constitute a criminal act, Kidder officials insisted yesterday, and Mr Jett would not be arrested unless US securities regulators determine that some fraud has been committed.

But the phantom trades over the past year would have resulted in Mr Jett receiving a much higher bonus than he merited and Kidder said it would seek redress through arbitration rather than the courts. Mr Jett earned dollars 9m last year, making him one of the best-paid executives on Wall Street.

Other Kidder employees said Mr Jett had assembled a small group of traders and salesmen and had used his influence within the firm to transfer many large client accounts to his associates.

While no clients appear to have been hurt in the scheme, Mr Jett allegedly benefited further by sharing in the lucrative sales commissions his group was paid.

The sources claimed Mr Jett would simply approach a Kidder salesman and suggest he was not 'worthy' of such an important account. His star status within the fixed-income division - which is headed by managing director Edward Cerullo - was such that he was often able to bring the account under his aegis.

'Nobody wants to ask questions when people are making money,' one Kidder employee said.

General Electric's chief financial officer, Dennis Dammerman, said six Kidder employees who worked closely with Mr Jett had been reassigned to other parts of the firm 'pending the outcome of an internal inquiry', which is being conducted by Gary Lynch, a former enforcement chief with the US Securities and Exchange Commission.

Bond-trading executives at other Wall Street firms expressed general disbelief that the scheme could have gone undetected by Kidder's finance staff and auditors.

Word of problems with Kidder's Treasury strips first circulated within the firm on Friday, but it was not until the weekend that the firm's managers decided that Mr Jett, who had worked at Kidder three years, had deliberately overstated the firm's profits.

Two weeks before, Kidder - apparently worried about its ever- larger and longer-term exposure to a volatile market - had asked Mr Jett to reduce his strips position, exposing his illusory profits.

The cost of reversing the phantom trades will be dollars 350m before taxes, resulting in Kidder's first quarterly loss in three years and reducing first-quarter earnings at General Electric by dollars 210m to about dollars 1bn.

But Michael Carpenter, Kidder's British-born chief executive said: 'The underlying operations of the fixed-income business and the firm overall continue to perform well.'

The Kidder affair has some echoes of the 1991 Treasury auction scandal at Salomon Brothers, whose chief government-securities trader, Paul Mozer, tried to corner the market on billions of dollars worth of US government bonds.

Salomon's four senior executives resigned as a result of the scandal, and the firm and its officers paid more than dollars 350m to settle related charges.