Enforcing sanctions

One of the worst sins by management is to not ‘rap knuckles’ when violations occur
or to treat malefactors unequally. Management should prioritize what compliance
goals are sacrosanct and which are less significant. Violation of a credit limit is less
culpable typically if it occurs due to a movement in the market as opposed to the act
of booking a deal that violates the credit limit. (Note that passive credit violations
can be a problem, however, when the underlying instrument is illiquid.) If a salesperson
makes an inadvertent representation that does not go to the heart of the deal
(risk, liquidity, etc.) but rather who he or she actually believed was active in the
market, that is likely not culpable.
Regulators will often look favorably on a situation where a firm brings them the
violation and make an effort to rectify the error(s) and/or make the counterparty
financially whole. You must be able to document that there was no inordinate delay
between the time of the discovery and the time when steps were taken to address the
issue. Taking the opposite tack of hiding violations is a recipe for disaster. In the
Salomon bid-rigging scandal of the early 1990s, the penalties were especially severe
since the Treasury Department alleged that a senior Salomon officer had denied
auction violations directly while visiting Treasury officials in DC. More recently, the
Credit Suisse Group in 1999 ‘has apologized to Japanese regulators for [previously]
obstructing an investigation’. The inquiry ‘focuses on allegations’ that Credit Suisse
aided Japanese clients to hide losses from investments (Singer, 1999).
Compliance review must be formalized and easy to implement. One should always
ask the open-ended question, is there anything else I should know or anything else
that would be useful to know? The onus should be on the line of business to ‘come
clean’. If sanctions are never or rarely imposed for violations then the day-to-day and
annual compliance sign-off becomes a sham. The attitude of the business people
becomes simply ‘don’t get caught’.
Transactions can appear to fall within the standard guidelines yet are special
animals. One should be alert for special items like off-market derivatives where the
premium or discount functions as a borrowing or deposit by the counterparty. If the
salesperson does not alert or volunteer this type of information, the sanctions should
be severe for this type of ‘bending the rules’. 513