Gambling by any other name

Yesterday a trader in the City of London was arrested.

It probably was related, but not confirmed by the police, to a case of $2 billion being lost in a trade by the investment banking division of the Swiss bank UBS.

This is not the first case of huge sums of money being lost like this - see the French trader, Jérôme Kerviel at Société Générale in 2008, or the British trader, Nick Leeson, at the resultantly defunct Barings Bank in Singapore in 1995. Among others.

The point was raised though on a discussion on Yahoo yesterday which appears relevant.

Why is what these guys are doing illegal? Traders are supposed to take risks on markets, options usw going up and down. It goes with the territory. If the market always went up, we would all be doing it. The fact that the market/option usw might go down is part of the risk.

The companies know this very well. If people lose money in their name, they should also be aware of this. It is part of the game. It is a refined method of picking horses at a race track. Occasionally you pick winners, you make money, occasionally you lose your shirt.

In the stock markets round the world, there are more winners than in a horse race of course. And you can even win if you gamble on the market going down.

"Gamble" though is the appropriate word. Your judgement may be faulty, the market does not follow your instinct, you lose your company's (and hence its investors') money. So where is this illegal?

If you lose a couple of hundred US$, does anyone care that much? If you lose $2 billion someone suddenly wakes up and notices though?

But the thinking is surely the same - you can lose, that goes with the risk, so why does the amount involved affect the legality of the action? It makes no sense!

On the race track, there is something called laying off - which prevents bookmakers from losing so much money. The finance markets have something called hedging. Now this sounds really clever. You bet on something, you lose, but the hedge repays the loss .... well sort of. So why doesn't the hedger lose his money? Why doesn't he become the source of checks in illegality? Here we appear to have an "everyone wins, nobody loses, so if you don't play you're a mug" type thinking.

It surely cannot work like this. If something loses, there has to be a loser somewhere, doesn't there?

There are a few points connected with the above. One - if like Nick Leeson you take an action to hide the fact that you lost, that is illegal - which is why he ended up in jail. Though from what I can gather, he wasn't the only one hiding his losses like that - it just happened that he was the one found out! In a big way.

Then the guy yesterday may well have forgotten to hedge his bet. But why is making the bet legal, but then of you forget to hedge it, why does it become illegal? Because someone might lose?

And then there is the question of supervision (why doesn't someone stop it happening? Answer everything happens so quickly, there simply isn't time, apparently (so why is that then still illegal?)).

And the companies driving the transactions are often so greedy for quick profits, they drive their employees (the traders) to take enormous risks - this was Jérôme Kerviel's contention, though it did not stand up in court.

The fact remains, it appears to many of us that the question of legality in this whole business covers a very shady area. It appears that if you profit, then what you have done is perfectly OK, but if you lose, you should be locked up for fraud.

If it is not the way that it works, then we need a much clearer explanation as to how it does.