Operational Risk – rogue trading at Morgan Stanley?

In the press release associated with the results, were the words “Within IRCC (Interest Rates, Credit & Currency), continued dislocation in the credit markets resulted in a loss in credit products, compared with a significant gain a year ago. This loss included a $120 million negative adjustment to marks previously taken in a trader's book that did not comply with Firm policies.” Overall this unit took a hammering with pre-tax income down to $679M compared with $2,950M in the same quarter last year and a pre-tax margin of 19% compared with last year’s 40%.

The press release gives no further information on the incident but London’s Financial Times has identified the individual as Matt Piper in the London office and says that he has been suspended on suspicion of increasing the value of his derivatives book to present his performance in a better light. Morgan Stanley told the FT that the mispricing may date back to 2007, was discovered in May and that the FSA have been informed pending an internal review.

This event pales into insignificance compared to the $7 billion impact on SocGen at the beginning of this year (see "How much did the risk management calamity really cost SocGen shareholders?") but it highlights the difficulties that risk management departments have in controlling a large number of traders dealing in esoteric and hard to value instruments.