Top 5 biggest banking process failures in modern history

"There is evidence of deep-seated cultural and ethical failures at many large financial institutions." William Dudley, President of the New York Federal Reserve Bank.

The 20th and 21st centuries have seen a vast number of banking process failures from technical, to ethical and individually driven downfalls. Although we are led to believe banks are the best place of protection for our finances, it is evident that this is not always the case. Small systems errors as well as occasional internal fraud can cause failures which cost industries and individuals tens of billions very quickly.

Left unattended, sometimes the most concrete processes can start to crack

Here are my top five biggest banking process failures of the 20thand 21stcenturies, causing doubt in the reliability of even the most respected banking organisations.

#1 - Technical Faults

The UK’s Royal Bank of Scotland (RBS) and America’s Knight Capital both underwent fundamentally large process failures in the summer of 2012.

In June 2012 RBS Bank lost the ability to process payments caused by an upgrade to the banks CA-7 batch scheduling process. Some of the bank’s customers were left stranded abroad, charged for late bill payments and a customer in a Mexican hospital was threatened with the termination of his life support machine, all as a result of the inaccessibility to their finances. Overall the crash cost the bank £175 million, made up of refunds to customers as well as paid to staff for the extra opening hours of the bank following the issue.

Similarly, whilst in the process of installing new software, an error led to incorrect orders being sent into the market – Knight Capital lost $440 million in the space of forty minutes. In response to the technical failure, the bank took forty-five minutes to recover its losses which has been referred to as "a lifetime in a real-time trading environment".

The technical failures experienced by both banks meant their reputation and profitability largely suffered and highlighted in frighteningly real terms that all systems are at risk of fault, failsafes and redundancies should be reviewed and tested regularly!

#2 - Time Zone Differences and Settlement Risk

On 26th June 1974 regulators seized Herstatt German Bank and forced it into liquidation. As well as the failure of this troubled bank, its close also highlighted a settlement risk issue in a foreign exchange trade and thus the disruption of its process.

On the day of its liquidation the bank received a number of large Deutsche Mark (DEM) payments which were due to be exchanged for US Dollars (USD) and transferred to New York. However, the counterpart banks did not receive their USD payments due to a failure to take into account the time difference between the two countries and the subsequent trading hours the transfer needed to occur in.

A positive outcome from this time zone failure however resulted in the creation of a new continuous linked settlement (CLS) protocol which enables foreign banks to trade currencies without a settlement risk if either party fails in their trade agreement.

#3 - Ethical Failure

The commercial bank,The Cooperative experienced what it described as "a hurricane of negative publicity" in 2013 following the news that there was an alarming shortfall between the bank’s load balance sheet and its actual sale value if ever forced to sell assets. In total, the gap (more a chasm) amounted to just over £3.6 billion. In October of that year, news emerged that the bank had been forced to negotiate an earlier £1.5 bn rescue with US hedge funds Aurelius Capital Management, Beach Point Capital Management and Silver Point Capital. As a result the Cooperative would lose majority control of its banking arm. In addition to this, the misselling of PPI further tarnished the name and reputation of this previously ethical organisation.

It appears that like many other commercial banks, The Cooperative was largely driven by a process in which targets and metrics incentivised salespeople to do whatever it took to meet them. As a result of this narrow sighted view, the bank did not act accordingly to meet their customers’ interests.

More recently, the bank lost 38,000 current account customers in the first six months of this year. Niall Booker, chief executive declared that the loss of customers was "a mortal wound" to the business. Nonetheless Mr Booker stood firm with the bank’s previous statement that it would not be profitable until 2016. With over £900million in losses over the last year and a half…it seems like they’re a long way off profitability!

#4 - Global Financial Crisis

The financial crash of 2007/2008 is largely considered as the worst banking failure since the Great Depression of the 1930s. The crisis was largely caused as a result of insufficient process aims. Many banks blindly shared the same ambitions of creating and increasing profits rather than working to meet the needs of its customers.

Lord Adair Turner, who spoke as chair of the Financial Services Authority stated"The financial crisis of 2007 to 2008 occurred because we failed to constrain the financial system’s creation of private credit and money." So tougher regulation and a close watch on processes earlier in time could well have prevented the global crisis.

Two banks that underwent some of the greatest losses as a result of and within the 2008 global banking crisis included Washington Mutual (WaMu) and IndyMac Bancorp.

In regards to total assets under management, Washington Mutual’s bank closure in 2008 and its receivership is currently referred to as the largest bank failure in American financial history. In the short period of a single month WaMu spiralled from being a well respected, high-ranking bank, to a distrusted, largely avoided one.

Following Lehman’s file for bankruptcy protection on the 15thSeptember 2008, the following week and a half caused a nervous frenzy amongst WaMu’s customers. The Office of Thrift Supervision reported a withdrawal of $16.7 billion in deposits and still had a total of $307 billion in assets at the time of closure. In the aftermath of its collapse, JP Morgan procured the collapsed bank for $1.9 billion.

Los Angeles based bank IndyMac Bancorp also ranks highly in the greatest process failures of the 21stcentury. The country’s largest mortgage lender experienced its inevitable collapse within the midst on the credit crises on July 11th2008. Federal Deposit Insurance Corporation (FDIC) seized over $30billon of the banks assets and resulted in an $8.9 billion loss for the FDIC.

#5 - Fraud and Rogue Trading

Following on from the previously mentioned crisis, the period also suffered a significant amount of fraudulent activity and rogue trading. Three major banks were brought close to collapse at the hands of three individuals whom partook in fraudulent deeds of rogue, unauthorised activity.

The first case was revealed in the early 1990’s where the infamous rogue trader Nick Leeson brought about the collapse of the UK’s Barings Bank. From achieving the recognition of Barings Bank’s star Singapore trader, declaring himself as "the rising star", Leeson also caused the Bank’s greatest downfall in 1995. The previous year the earthquake in Kobe, Japan led to an economic downturn for the bank and by autumn 1994 Barings had recorded £208million in losses. Despite this, Leeson requested and obtained additional funds to continue trading until the bank found further losses of £800million (almost the entire assets of the bank) in February 1995. Leeson had hidden the losses up until this point in one of Barings’ error accounts – the infamous 88888. Soon the hidden losses became too great to recover, Barings Bank collapsed and was purchased by the Dutch organisation ING for the trifling sum of £1!

Moreover, the French Societe Generale suffered substantial losses mainly by the fraudulent transactions carried out by Jerome Kerviel between 2007 and 2008. In 2008, the bank suffered a trading loss of approximately$4.9billion, the biggest loss of its kind ever recorded, this was all dubbed the fault of Kerviel in opposition to his claims that the losses were caused by panic selling by the bank. The bank argued that the guilty individual had "taken massive fraudulent directional positions in 2007 and 2008 that were far beyond his limited authority". Jerome further commented that "the only goal was money, money, money for the bank. I didn’t care about what I was doing".

The third and final case took place in the autumn of 2011 within the Swiss bank UBS. Once again the losses (of over $2billion) were a result of unauthorised trading and were performed by an individual trader, Kweku Adoboli, a director of the bank’s Global Synthetic Equities Trading Team in London. On September 24th, Oswald Grubel, the banks CEO resigned, followed by the resignation of the co-heads of the Global Equities team in early October. Although Adoboli was largely at fault, it later emerged that UBS had also failed to act upon an earlier warning issued by their computer system in regards to his trading. For this reason the failure to respond towards the warning also left the CEO and associates partly to blame. Sasha Wass, the prosecutor in Adoboli’s trial stated that the individual "was a gamble or two from destroying Switzerland’s largest bank for his own benefit."

On the whole, all three banking failures suggest that there were inadequate governance structures in place in the process. If the process had been more transparent, the three individuals would not have been able to affect the companies to the extent they did and could have been caught earlier on.

The moral to this piece, if it has one, would be that all systems, all processes, no matter how ‘foolproof’ or secure, are open to error and to exploitation. If history has taught us anything it’s that hindsight is a wonderful thing, but in the moment it’ll be the system or the process that you least expect. Only regularl reviews, and a rigorous structure can protect you from yourselves. Perhaps some of these crises could’ve been averted if those at the top took a little more interest in their processes to begin with?