The Financial Regulator warned Merrill Lynch and other investment service providers to tighten up internal controls and risk management on their trading desks only months before a London trader reporting to the Irish arm of the US investment bank lost $456m in illicit, misreported currency trading, resulting in a €2.75m fine last Friday.
The fine, the second-largest ever imposed by the regulator after the fine to Quinn Insurance last year for improper intra-company transfers to cover investment losses, was for two separate incidents in which traders did not properly value their positions, costing the bank hundreds of millions in proprietary losses.
It is believed the severity of the fine related to the nature of the regulatory breaches, which stemmed from Merrill's failure to managed market risk limits in the traders' activities, a key responsibility highlighted in a letter sent from the regulator to Merrill and other institutions in June 2008 following the revelation of massive losses incurred by Société Générale's rogue trader, Jerome Kerviel.
In the letter, seen by the Sunday Tribune, the head of investment service providers supervision set out detailed internal controls specifically to avoid a SocGen situation at an Irish supervised institution. The firms were also required to conduct risk and governance reviews and report and control weaknesses to the regulator by mid-July 2008.
The heavy fines suggest Merrill's response and follow-up was unsatisfactory, as within months the trading problem emerged precisely in the areas it was required by the regulator to tighten up, regulatory sources said.
The investigation began in February after Merrill discovered undisclosed losses of more than €300m by a single trader, identified by the New York Times as Alexis Stenfors, a foreign exchange trader on the bank's London desk. Compliance officers at the bank informed regulators and began combing through the books of other traders as executives at Bank of America, Merrill's owner since September 2008, were shocked at the scale of the damage, which rivalled infamous trading catastrophes at SocGen, Barings and AIB's US subsidiary Allfirst.
Merrill Lynch International's chief executive, Michael Ryan, is leaving the bank by the end of the month to take up his new job as deputy chief executive of the Financial Regulator in Qatar.