4.0 Segregation of front and back-office
Management did not segregate Leeson' duties; he successfully ran both front and back offices.
There were plenty of warnings re the dangers of non-segregation of duties, however management ignored the situation assuming their recommendations would be followed.
Why was it allowed to happen?? Leesons superiors allowed him to be in charge of both front and back office operations for they were more than pleased with his stellar performance. Leeson managed all transactions; payments, ingoings and outgoings, confirmations and contracts, reconciliation statements, accounting entries and position reports. There was a major role conflict.
Effect
This weakness in the control gives the Leeson a chance to override the authority which he should not have and delay his fault to be found in the end.
Using his position of authority, he created a secretary account which was designated for the unauthorised transactions he undertook in Japanese Government Bonds, Euroyen futures and Nikkei 225 options. Because of the infamous account existed, reconciliation of accounts did not disclose the huge losses in P&L. When the senior management received the error information about the performance of BFS, They can’t detect the severe problem in the BFS.
Recommendation:
Management should have a total regard and understand the conception of allocation of resources following with the risk posed by the business. They should separate Leeson’s duties: in charge of the back office, cheque signing, signing off SIMEX reconciliations. back office should have recorded,comfirmed and settled trades transacted by the front office and make sure every transaction is authorised legally and reduce the risk of error or fraud.
Issue: Senior management involvement
Barings senior management should be more positive for oversee the operation in the Singapore branch. And discovered the big issue in the major report to help the company avoid the risk, make the strategy to archieve the company’s perspective.
Cause:
However, they failed to do so. Due to they were such enjoying the pleasantly surprising that they could not be aware any questions behind the great success. contrastly Leeson passed the test to become a registered trader with SIMEX, he created an account 88888 which was different from error account 99002 for Barings Bank. And then started trading Futures on Nikkei 225. By Oct. 1992, he has made loss of around 4.5 million in the error account. All of these happened with senior management’s very superficial knowledge of derivatives. They did not notice that it was a low-risk for Arbitraging the price differences between two futures contracts and then did not question why the low-risk can generate such high profits.
Because of lack of understanding of the business in senior management, they were still praising him and Bank wired hundreds of millions of dollar to Singapore without any proper investigation.
Recommodation
The senior management should realised that it was impossible for Leeson to be making the profits that he was reporting without taking on undue risk, and they might question where the money was coming from. Give the arbitrage should be cash-rich, they should give an alarm when the huge capital requirement was called.