May 1997
Lessons from NatWest
On February 28 NatWest Markets announced that it was
suspending a trader after a £50 million loss on interest rate options. Two weeks later the bank suspended four more people, including two risk managers, and the hole had grown to £85 million. What went wrong? And what are the lessons for risk managers everywhere? By David Shirreff.
No tears were shed in the marketplace when an embarrassed NatWest announced in mid-March that some of its interest rate options books had been mispriced over the last three years to the tune of £85 million.
A straw poll of options dealers and brokers suggests that NatWest's mispricing had been an open secret. One US investment bank, having looked at NatWest's prices and done its own sums, decided to call the bank's bluff and bought, according to market sources, a large amount of out-of-the money options from NatWest. A US regional bank did likewise.
Mispricing of options is often a matter of opinion, and is easily forgiven by people who make money from it. But it was the arrogance of NatWest's options and swaps traders which alienated brokers and dealers in the market.
Whatever the outcome of an inquiry by Cooper's & Lybrand and Linklaters & Paines into the...
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