The Wall Street Journal-20080129-breakingviews-com - Financial Insight- Too Many Days on the Job- Societe Generale Scandal Shows Forced Vacations May Help Catch Fraudsters

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breakingviews.com / Financial Insight: Too Many Days on the Job; Societe Generale Scandal Shows Forced Vacations May Help Catch Fraudsters

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The simplest solutions usually work best. The axiom, not surprisingly, holds true in the case of Societe Generale and Jerome Kerviel, its now infamous rogue trader. Better password protection, safeguards against fabricated hedges and counterparty risk controls all help. But the best way to catch a bank fraudster might just be something more mundane: a forced vacation.

The French bank said it tried on several occasions to make Mr. Kerviel take a few weeks off, but that it ultimately went along with his excuses for staying at work. If he had been gone, his frauds probably would have been spotted. The cost of Mr. Kerviel's extra days on the job: 4.9 billion euros ($7.19 billion).

Many big Western banks have a rule of thumb that traders be required to take holiday for at least five workdays in a row, and often 10. This isn't an effort to undercut the work ethic. It is just hard to keep a fraud going when the day-to-day management of an order book is being handled by someone else.

Many bosses are lax about this guideline. Traders are temperamental, and they don't like to get too far from the markets. There is already a precedent that should have provided ample warning -- that of the Daiwa Bank bond trader who had losses of $1.1 billion in 1995. He didn't take an extended break for more than a decade.

That case renewed discussions about requiring time off. Still, regulators don't mandate vacations. In the United Kingdom, for example, the main regulator for the securities industry, the Financial Services Authority, simply considers obligatory time off a "best practice." A forced holiday isn't a panacea for detecting fraud, of course. Still, compliance officers likely will be revisiting many facets of their internal controls in the aftermath of the SocGen experience. It also is a good bet that one consequence will be more traders sipping daiquiris on the beach.

CME's Nymex Courtship

CME Group's $11 billion bid for Nymex Holdings may look parsimonious. The Chicago Mercantile Exchange parent is offering a cash-and-stock deal totaling about $119 a share, or an 11% premium to Friday's share price, for the parent of the New York Mercantile Exchange. Prior to a more than 20% decline related to falling oil prices this month, Nymex's stock has almost always traded at more than $120 a share. Still, the deal may be better for Nymex than for CME.

While CME appears to be swooping on Nymex at an opportune time, the price isn't exactly cheap. The cost and revenue synergies of about $100 million are only worth about half the premium CME is offering for the New York energy exchange.

That is odd, since CME's negotiating position looks pretty strong. Nymex has few other options. About 90% of its main oil contract trades through Globex, the electronic system run by CME. Other suitors probably would have to find an alternative. Since the other main platform is run by Nymex rival IntercontinentalExchange, that could be difficult.

Also, Nymex's business is basically a play on energy market volatility. Granted, it garners fees for trades when prices decline as well as when they rise. But its net volume of trades generally increases consistently only when prices rise. With oil prices falling recently, and the possibility of a recession that would take steam out of the market, Nymex's growth rate already has begun to decline. Of course, the deal has advantages for CME, too. First, Nymex is one of the two big U.S. energy futures exchanges. It would round out CME's product line nicely. Antitrust worries are minimal, since the two have little overlap. And Nymex's earnings multiple could be re-rated upward toward CME's level, which, at about 34 times expected 2008 earnings, is about five points higher.

In any case, Nymex shareholders look eager for the CME's offer -- with the shares jumping on the news. They are right to push the stock up. With futures markets rapidly consolidating, it is wise to tie your fortunes to a behemoth.

-- Jeff Goldfarb, Dwight Cass and Cyrus Sanati

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This column is by breakingviews.com, an online financial commentary site.