Beware of derivatives trade risks, banks told

Mainland banks have been ordered to review the risk management practices of their derivatives trading businesses in the wake of the US$554 million losses incurred in the China Aviation Oil (Singapore) Corp scandal.

Banks licensed or applying for licences to trade derivatives must submit a report detailing risk management deficiencies and subsequent remedial measures by the end of next month, the China Banking Regulatory Commission (CBRC) said yesterday.

Lenders must also regularly rotate their derivatives trading heads and traders, the regulator said in a statement. In addition, senior managers supervising risk management and internal control could not at the same time be put in charge of trading and marketing.

Hefty losses by CAO after it wrongly bet on a decline in global oil prices 'highlighted the huge potential risk in derivatives trading', the CBRC said. 'Every bank must draw a lesson from that.'

Mainland investors began to trade in over-the-counter derivatives through the big state-owned banks in the late 1980s, but following the 1995 collapse of Barings Bank caused by rogue trader Nick Leeson, China had restricted trading.

It was only last year that a new government regulation - hailed by some foreign analysts as the most important financial derivatives regulation to come from the country - freed mainland banks to trade in derivatives for themselves and clients for risk hedging and profit.