Société Générale: French Inquiry: Bank’s Inaction Grows as Issue

NICOLA CLARK and KATRIN BENNHOLD
NYT, January 29, 2008

PARIS — The credibility of Société Générale’s management came under fresh scrutiny Monday after Jérôme Kerviel told French prosecutors that his fictitious trading started as far back as 2005 — a year earlier than the bank had acknowledged.

At the same time, the prosecutors said Mr. Kerviel disclosed that at least one of his trades raised a red flag about two months ago at Eurex, the pan-European derivatives market, but that he headed off concerns at the bank by producing a false document.

Mr. Kerviel’s account is almost certain to raise fresh questions about why Société Générale’s auditors did not notice anything amiss sooner. It could also put additional pressure on the bank’s chief executive, Daniel Bouton, to step down.

“When there is an event of this nature, it cannot remain without consequences as far as responsibilities are concerned,” the French president, Nicolas Sarkozy, told reporters while on a visit to a University of Paris campus.

But even as French politicians stepped up their pressure on the bank, they sought to head off any efforts by foreign banks to acquire Société Générale while it is under duress.

Finance Minister Christine Lagarde said the bank was under “no constraints” to merge with another financial institution.

Henri Guaino, a top adviser to Mr. Sarkozy, went further, warning that the government would intervene if any company made a hostile move against Société Générale. “I don’t think the state would remain with its arms crossed if someone, whoever the predator, tried to take advantage of the situation,” he said Sunday night on French television.

France has a long record of protecting its landmark companies, or national champions, from takeovers and bankruptcy.

These fixtures of the French political landscape — “economic patriotism,” as it is known here — have included the bailout of another large bank, Crédit Lyonnais, at a cost of $20 billion to taxpayers in the 1990s and a series of defensive industrial mergers to stave off foreign bids in recent years.

Talk of a possible offer to take over all or part of Société Générale has proliferated since the bank disclosed that it lost 4.82 billion euros, or some $7.1 billion, by unwinding the positions taken by Mr. Kerviel.

On Monday, the speculation intensified. Analysts at Citigroup, in a note to clients, said that HSBC and Barclays might be among bidders for Société Générale.

Citigroup said the bank’s franchise had been “severely impaired,” and it cut Société Générale shares to a sell rating from buy, and its price outlook to 65 euros from 130.

In trading here Monday, Société Générale stock slid 3.8 percent, to 71.05 euros, the lowest level since August 2004. It is down more than 6 percent since Thursday, when the bank announced its losses.

Even Mr. Bouton, who traveled to London on Monday to gain support for a special share issue totaling 5.5 billion euros, has acknowledged that Société Générale could be the object of a takeover bid. “This would not be the first time,” he noted in the newspaper Le Figaro.

Mr. Bouton also said Monday that his offer to resign, which the board rejected last week, remained on the table.

If necessary, the most likely way to keep Société Générale in French hands would be for the government to engineer a merger with another French bank. Its larger rival, BNP Paribas, may be interested in renewing a bid after coveting Société Générale for years, perhaps with the help of another French bank, Crédit Agricole.

A senior government official, speaking on condition of anonymity, denied that the finance ministry had already been in contact with BNP and Crédit Agricole over the weekend. But he acknowledged that those two banks were the most likely ones in France to have an interest in and enough cash to buy Société Générale.

Mr. Kerviel was released Monday after having been questioned by the prosecutors for 48 hours. They have requested that he be charged with forgery, breach of trust and unauthorized access to a computer system.

In France, before formal charges can be brought, a judge must complete an investigation. The Paris prosecutor, Jean-Claude Marin, requested that Mr. Kerviel remain in custody, in part he said because he feared Mr. Kerviel might become suicidal. But a spokeswoman for Mr. Marin’s office, Isabelle Montagne, said defense lawyers persuaded the investigating judges to release Mr. Kerviel under judicial supervision, provided he surrendered his passport.

As an arbitrageur, Mr. Kerviel was entrusted to purchase one portfolio of stock index futures and at the same time sell a similar mixture of index futures with a slightly different value, as a hedge. But while Mr. Kerviel, according to the bank, put sizable, real purchases in one portfolio, he created fictitious sales transactions in the second, offsetting portfolio. This gave the impression to risk managers that the risks in the first portfolio had been hedged when in fact they had not been.

According to Mr. Marin, Mr. Kerviel said he made his first fictitious transactions at Société Générale late in 2005, not long after moving to the trading desk from the risk-management department.

These initial false trades “were certainly not of the same size of those at the start of 2008,” Mr. Marin said. “But through the end 2005 and over the course of 2006 and 2007, he little by little took positions that were purely speculative.”

“This was not a new activity for him,” Mr. Marin added.

Late Monday, one of Mr. Kerviel’s lawyers, Christian Charrière-Bournazel, told reporters that his client had been released from custody while the investigation continued. He did not disclose Mr. Kerviel’s whereabouts.

According to Mr. Marin, Mr. Kerviel also said it was “not exceptional” for traders at the bank to exceed their authorized trading limits. Mr. Marin emphasized that this did not imply that other bank employees engaged in any fictitious trading.

Mr. Kerviel’s account to prosecutors differs from a timeline provided Sunday by the chief executive of Société Générale’s investment banking division, Jean-Pierre Mustier, who said a review of the trader’s records indicated that the fictitious transactions dated to late 2006 or early 2007.

A bank spokeswoman, Laura Schalk, declined to comment on Mr. Kerviel’s account, which, if true, could raise additional questions about the quality of the bank’s risk-management controls.

Mr. Mustier did not return telephone messages seeking comment. But in a phone briefing with reporters on Sunday, he said the bank had already made “extensive checks” of other traders’ portfolios, which did not turn up any activity resembling Mr. Kerviel’s trading.

With regard to Eurex, the pan-European derivatives market operated by Deutsche Börse, the German stock exchange, Mr. Marin said Mr. Kerviel contended that at least one of his trades had prompted a phone call about two months ago. “Eurex alerted Société Générale in November 2007 about the positions taken by Jérôme Kerviel,” Mr. Marin said. “Questioned by the bank, he produced a fake document to justify the risk cover.”

A spokesman for Eurex in Frankfurt, Rainer Seidel, declined to comment, citing confidentiality agreements with bank customers.

Surveillance of Eurex trading activity falls under the responsibility of an independent watchdog, the Market Surveillance Office, which would ordinarily be the first authority to make contact with a bank about suspicious trading.

Ms. Lagarde, the finance minister, is scheduled to deliver a report this week to Prime Minister François Fillon detailing how Société Générale suffered the trading loss. The French central bank is also carrying out an investigation.

Ms. Lagarde said her inquiry would focus on why the bank’s internal controls failed and whether financial companies should be required to institute tighter controls on their businesses.

In another development, reported by Reuters, a French lawyer acting for 100 small shareholders said he had sued Société Générale over the way it unwound Mr. Kerviel’s share deals last week.

The lawyer, Frederik-Karel Canoy, said the bank should have informed the markets about its pending losses before embarking on a selling spree Jan. 21-23 to unwind the 50 billion euros of risk exposure built up by Mr. Kerviel.

James Kanter contributed reporting.