Professional Documents
Culture Documents
LESSON 22
THE FOREIGN-EXCHANGE MARKET-STRUCTURE & CASE STUDY
When we arrived at the Buenos Aires airport a few hours later, I Ethical Dilemma
cashed some more money at the bank in the airport. This time, The need for Check and Balances
the bank accepted traveler’s checks, and I converted $100 for There are plenty of opportunities for a trader to make money
93.95 pesos, which was a little surprising because I had read that illegally. One of the most publicized events in the derivatives
the exchange rate was $1 = 1 peso. To my surprise the bank markets in recent years involved 28-year-old Nicholas lesson and
charged me 5 percent to cash the traveler’s checks and another 233-year old Barings PLC. Lesson, a trader for Barings PLC,
1.05 percent service fee-a total of 6.05 pesos. went to Singapore in the early 1990s to help resolve some
Because everything was expensive in Buenos Aires, I ran out of problems Barings was having. With in a year, he was promoted
pesos quickly, so I went to the American Express office the next to chief trader. The problem was that he was responsible for
day, and it converted $100 for 99.8 pesos. Next time, I’ll ask trading securities and booking the settlements. This meant that
before using traveler’s checks. It can get confusing. At times, I’ve there were no checks and balances on his trading actions, thus
sold traveler’s checks at a better rate than I got than if I’d been opening the door to possible fraud. When two different
selling cash, and other times not. When we left Buenos Aires, people ate assigned to trade securities and book settlements, the
the exchange rate was the same for buying and selling-l: 1. There person booking the settlements can confirm independently
was a $0.15 service charge, so it cost almost nothing to change whether or not the trades were accurate and legitimate. In 1994,
currency-$l 00 to buy 99.8 pesos at American Express and $100 leeson brought stock index futures on the assumption that the
for selling 99.85 pesos (100 pesos less $0.15). Tokyo stock, market would rise. Unfortunately, the market fell,
After a delay at the airport in Buenos Aires, we finally headed and lesson had to come up with cash to cover the margin call on
for Sao Paulo, Brazil. The currency market in Brazil has always the future contract. A margin is a deposit made as security for a
been the haven of the black marketer. No one ever has a clue to financial transaction that is otherwise financed on credit. When
the real value, and it varies with personal checks, traveler’s checks, the price of an instrument changes and the margin rises, the
or cash. Every hotel and shop has its own rate, which requires exchange “calls” the increased margin from the other party in
astute shopping around. this case leeson. However, leeson soon ran out of cash from
Barings, so he had to come up with more cash. One approach
collected on the contracts to cover his margin call. Unfortunately, devaluing peso, and a burden of growing debt. HSBC lost $1.1
he was using brings’ funds to cover his transactions. As the billion in 2001 because of Argentina’s problems, and its
Tokyo stock market continued to plunge, leeson fell farther and outlook for 2002 was not much better. If things don’t improve
farther behind and eventually fled the country, later to be caught soon in Argentina, HSBC may be forced to close its operations
and returned to Singapore for trial. Barings estimated that in the country.
leeson generated losses in excess of $1 billion, which put London-based HSBC derives its name from its founding
Barings into bankruptcy. Eventually, the Dutch bank ING member, the Hong Kong and Shanghai Banking Corporation
purchased Barings. Lesson’s activities in the derivatives markets Limited, which was established in 1865 to permit trade between
were illegal and a violation of solid internal controls. China and Europe. Until the early twentieth century, Hongkong
Finally, leeson went to prison on Singapore (where he was and Shanghai Banking Corporation set up offices and branches
treated for colon cancer as well). On July 3,1999, leeson was mainly in China and southeast Asia-but also in India, Japan,
released from prison, and he returned to his native Britain. Europe, and North America. As HSBC’s Web site states, “In
Since the collapse of Barings, measures have been put into place many of its branches, the bank was the pioneer of modern
in banks to prohibit such consequences, yet negative outcomes banking practice. From the outset, trade finance was a strong
of rogue trading continue to happen. In February 2002, Allied feature of the bank’s business, with bullion, exchange, and
Irish Banks discovered that an employee, John Rusnak at its merchant banking also playing an important part.”
U.S. subsidiary, All first banks, lost $750 million, but the profit After World War II, Hongkong and Shanghai Banking corpora-
was not investigated by the bank because it was making a great tion expanded and diversified its business with acquisitions “,c
deal of money off his trades. But because of the U.S. market at alliances. Through the 1980s, it expanded into Canada, Austra-
that time, Rusnak’s leveraged gains quickly turned to huge lia, and the United States, and in the 1990s, it moved into Brazil
losses. A/B suspect Rusnak was involved with fictitious trades and Argentina. In 1991, its member companies came together
and collusion inside or outside of allfirst bank. to form HSBC Holdings plc. HSBC pursues a balance of
opportunities in developed economies and emerging markets
Looking to the Future
and now has over 7,000 offices in 81 countries. It has stock
Exchange Markets in the New Millennium market listings in London, Hong Kong, New York, and Paris.
Significant strides have been made and will continue to be made
HSBC’s entry into Argentina began in 1997, when the bank
in the development of foreignexchange markets. The speed at
acquired Roberts SA de Inversions, changing its name to HSBC
which transactions are processed and information is transmitted
Argentina Holdings SA Along with the banking arm, HSBC
globally will certainly lead to greater efficiencies and more
bought into a general insurance agency with the purchase of
opportunities for foreign-exchange trading. The impact on
Roberts. In 1994, HBSC united with New York Life to form a
companies is that costs of trading foreign exchange should
life and retirement insurance company, so the acquisition of
come down, and companies should have faster access to more
Roberts was a strategic fit in both banking and insurance. HSBC
currencies.
Argentina has also acquired companies in pension fund
In addition, exchange restrictions that hamper the free flow of management and medical care, thus creating a diversified
goods and services should diminish as governments gain portfolio in Argentina. HSBC is the eighth largest bank in
greater control over their economies and as they liberalize Argentina and employs over 5,900 people in 183 offices. The
currency markets. Capital controls still impact foreign invest- banking arm of HSBC Argentina maintains commercial services
ment, but they will continue to become less of a factor for trade with about 80 percent of the nation’s top 200 companies and
in goods and services. MNEs. The outlook for HSBC in Argentina looked good. In
The introduction of the euro has allowed cross-border 1998, its first full year of operations, the bank had a pretax loss
transactions in Europe to progress more smoothly. As the euro of $13 million but earned a profit of $67 minion in 1999 and
solidifies its position in Europe, it will reduce exchange-rate expected profits to continue growing at 100 percent.
volatility and should lead to the euro taking some of the To understand the decline of HSBC in Argentina, it is necessary
pressure off the dollar so that it is no longer the only major to take a look at Argentina’s economic history. Argentina’s
vehicle currency in the world. economy flourished in the beginning of the twentieth century,
Finally, technological developments may not cause the foreign- growing at an annual rate of 5 percent for three years. It
exchange broker to disappear entirely, but they will certainly attracted a flood of British and Spanish capital and was rated as
cause foreign-exchange trades to be executed more quickly and one of the world’s 10 richest countries-even ahead of France
cheaply. The growth of Internet trades in currency will take away and Germany. However, it has been downhill since then. When
some of the market share of dealers and allow more entrants Juan Peron ruled the country from 1946 to 1955, he instituted
into the foreign-exchange market. Internet trades will also protectionist measures and printed money to finance generous
increase currency price transparency and increase the ease of benefits for workers. State intervention in all sectors led to poor
trading, thus allowing more investors into the market. productivity and structural weakness in the economy. Inflation
H SBC Holdings plc, one of the world’s largest banks, is faced plagued the country; there were two bouts of hyperinflation in
with a difficult decision regarding its Argentine subsidiary. the 1980s and two banking collapses. As a result, Argentines
Argentina’s economy collapsed at the end of 2001, leaving both lost trust in the peso and invested in U.S. dollars or shipped
their capital abroad.
© Copy Right: Rai University
194 11.154
In 1989, Carlos Menem took control of the country and set out problem. The budget went from a surplus of 1.2 percent of
system from their headquarters. The central bank has been million into its Argentine operations to keep them stable, but
printing pesos to keep banks solvent, but this has led to if the situation continues to worsen in the country, HSBC may
increased inflation. The national and provincial government are have no choice but to exit.
also using bond notes, quasi-currency, to pay many of their
Questions
debts. This note is being swapped in everyday transactions and
has surprisingly held its value against the peso. Officials promise 1. What are the major factors that caused the peso to fall in
Argentines that once a deal is signed with the IMF, they will value against the dollar?
gather up this quasi-rency and swap it for pesos at face value. 2. What should President Duhalde do to stabilize Argentina’s
Progress is slow with the IMF. Many of the measures required currency?
by the IMF are extremely unpopular with the provincial 3. What are HSBC’s options in Argentina, and what do you
governors and the courts. As a result, Duhalde has had to think they should do?
abandon some of his required cost cutting in order to please Tourists and business travelers hope for favorable exchange
the country. One of the last measures Duhalde has imple- rates when traveling abroad. By early 2003, the dollar had risen
mented is that of pacification, which turned bank’s dollar assets bringing the exchange to 713.78 Chilean pesos, 3.33 Argentine
and liabilities into devalued peso. This again has put a severe pesos, and 3.44 Brazilian reals per dollar. But the dollar began
strain on the banking system. People do not trust the banks to drop again in mid-2003.
anymore. They blame the banks for the bank freezes even
though the government ordered them. Two foreign banks have
left the country, and others are threatening to do the same.
Argentina’s economy, though still deeply damaged, is starting to
stabilize. The peso was trading around 27 cents in the latter half
of 2002, inflation declined and the central bank’s reserves
increased a little partly due to the fact that the nation’s banks
aren’t paying their debts). Some economists believe that
Argentina should go with full “dollarization” of its currency,
not at 1: 1 but more like 4: 1. This would be even more binding
than its previous policy, but it would bring confidence back to
the economy. Others argue for a system of “managed floating
plus” that would give the government flexibility to alter its
monetary policy but still stay within certain targets and reduce its
currency mismatching. The world is waiting to see what the IMF
will do to support the country and what Argentina’s next move
will be.
HSBC’s reaction to the crisis was similar to that of other banks
in the country. It was forced to rethink loans and to decide if
the political and economic instability of the country was worth
the risk of continued operations. HSBC quickly cut its profit
estimate for 2001 by 10 percent. Then when its annual report
came out, the bank declared a $1.12 billion charge for provisions
associated with Argentina and losses from foreign currency
redenomination. A total of $520 million of this charge stems
from the loss in value of the peso. In Latin America, HSBC lost
$977 million in 2001, compared to a profit of $324 million in
2000. Overall, HSBC Holdings doubled its bad-debt charges to
$Z.4 billion, and pretax profits fell by 14 percent in 2001.
Because of the pesification instituted by the Argentine govern-
ment, loan repayments to HSBC were deeply discounted. In
June 2002, HSBC refused a loan payment by Perez Company,
an energy holding company, because the payment was in pesos.
The original loan was for $101 million and Perez’s offered
payment of 104.57 pesos only equaled about $28 million at
market rates. HSBC argued that debt was not covered by
pesification. HSBC worked quickly to renegotiate all contractual
agreements, but it hoped that the IMF would soon provide
assistance to the battered country. Because the IMF was stalling,
HSBC questioned whether it should continue to fight losses in