FBI Investigates Banks After Whistleblower Exposes Traders Front-Running GSEs

Tyler Durden's picture

It would appear that the government, via its mortgage-financing subs Fannie Mae and Freddie Mac, is providing yet another $50 to $100 million fillip to banks - but this time at the expense of their ignorance. As  Reuters reports, the FBI is investigating "unsophisticated tradecraft," such as hand signals and special telephone ring tones, that some traders are conspiring to rig rates on large orders submitted by the GSEs - front running them in the interest rate swaps market. Of course, no one is surprised at yet another manipulation or malfeasance but the 'high-level-employee' whistleblower's exposure is perhaps not surprising since the size of 'hedging' orders from the mortgage-managers provides an incentive for front-running ahead of the trades - "GSEs frequently submit large interest-rate swap trades, making them easy targets for front running and lucrative targets for market manipulation."

 

Via Reuters,

Wall Street traders may be manipulating a key derivatives market and front running Fannie Mae and Freddie Mac, hurting the US-owned mortgage giants in the process, according to an FBI intelligence bulletin reviewed by Reuters.

 

Using what Federal Bureau of Investigation agents described as "unsophisticated tradecraft," such as hand signals and special telephone ring tones, some traders are conspiring to rig rates on large orders submitted by Fannie Mae and Freddie Mac , or front running them in the interest rate swaps market, the document says.

 

The FBI said in the bulletin that the information came from a former high-level employee at a U.S. bank and an employee at a Canadian Bank, plus interviews with other bank workers conducted in 2012 and 2013.  The former high-level employee at the U.S. bank estimated the front running had resulted in profits of $50 million to $100 million for the bank, the FBI said.

 

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Front running occurs when someone with advance knowledge of another market participant's plan to make a sizable transaction puts an order in first, often profiting from a market move that can occur once the big trade has gone through.

 

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According to the bulletin, one employee at the U.S. bank and the Canadian bank employee reported that senior bankers at the two banks "planned and encouraged this behavior because it led to higher revenue for their respective parent banks."

 

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Fannie Mae and Freddie Mac, which are government-sponsored enterprises (GSEs), often submit large swap orders to hedge their huge holdings of home mortgages against swings in the bond market. The size of the orders provide an incentive for front running ahead of the trades.

 

"GSEs frequently submit large interest-rate swap trades, making them easy targets for front running and lucrative targets for market manipulation," the FBI bulletin said.

 

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U.S. and Canadian banks encouraged traders to listen in on calls with the investors to gain transaction information "which could be used to facilitate front running or market manipulation."

 

They would then use hand signals to inform other traders of the details of the planned swaps, allowing these traders to also benefit, employees at the banks said, according to the bulletin.

Just add it to the list of banking malfeasance... a fine? sure... that'll do it. Or is this just standard 'flow' trading on any desk (oh apart from the collusion and lack of Chinese walls you mean?)