Road to ruin paved by £220m trading on own account

WHERE IT WENT

A substantial proportion of Nick Leeson's ruinous contracts in high- risk derivatives was proprietary trading on Barings' own account, not the fraudulent unauthorised trading the bank has claimed, a detailed analysis of the transactions reveals.

Barings would have required an absolute minimum of about £220m to finance its margin calls on long positions held in the Nikkei-225 contract on the Singapore International Monetary Exchange.

The exchange required buyers of the Nikkei contracts to deposit Y625,000 (£8,778) as an initial payment for each contract; afterwards, traders had to ensure that a minimum of Y500,000 was kept in the account for each contract to ensure that losses were settled should the value of the contract fall at the end of each day's trading.

Since the Barings debacle the minimum deposits, or margin calls, have been raised to Y625,000 for the initial margin and Y1.08m for the maintenance margin. The exchange calculates each trader's position on a daily basis and issues margin calls for those contracts facing losses which have to be fulfilled within 24 hours.

Barings is understood to have had 25,000 contracts open on Simex last week when the company was forced to close. The initial margins on these contracts would have cost £220m.

However, the cost of maintaining the contracts, given that the market was falling and Barings' position was long, would have been far in excess of this sum. Market sources in Singapore say that Simex was holding as much as £350m in margin deposits from Barings, indicating that the falling market forced the company to put up increasing sums of money to cover its positions.

Most of the positions in the Osaka market, where the Nikkei contract is also traded, were short, which would have meant that profits were being made in the falling market. It also seems likely that most, if not all of these contracts, were traded on behalf of clients rather than Barings itself.

It remains unknown how many of the contracts in Singapore were traded on behalf of Barings' clients and what proportion was being traded on behalf of the company. The patchy information available suggests that most trades were proprietary or on Barings' own behalf.

This means that Barings was investing a sum close to its entire assets in a single derivative play. The big question is whether the company did so knowingly, or as a result of deception by Mr Leeson, the trader alleged to have created a large number of phoney client accounts to disguise the fact he was gambling the company's money without authorisation.

It is most likely that the enormous position built up in the Nikkei contract was a combination of authorised, but reckless trading, and unauthorised trading disguised by a series of false customer accounts.

The trades known about in London were financed by loans from Japanese banks, making the investments even more risky because they were on borrowed money. The phoney customer accounts would have needed to be financed by Mr Leeson himself. It is alleged that he did so by creating a secondary market in put options on the Nikkei Index, thus extending his gamble on the market going up.