Italy set to bail out bank after huge derivatives losses


Richard Moore

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Italy set to bail out bank after huge derivatives losses
By Ambrose Evans-Pritchard
Last Updated: 12:40am BST 25/07/2007

Board members of the Italian bank Italease were in emergency session last night 
amid reports that the central bank may step in following huge losses on the 
derivatives markets.

Italease shares fell 10.5pc on the Milan bourse after the financial daily Il 
Sole reported that the Bank of Italy intended to install its own interim 
management after conducting a review of Italease's disastrous bets on leveraged 
credit futures. The company, which was worth ¤2bn (£1.34bn) in April, has since 
lost three-quarters of its value.

The bank has sent out margin calls to 2,200 clients in an attempt to claw back 
¤610m paid to counterparties to stave off disaster after losses suddenly began 
to spiral out of control.

Pierantonio Arrighi, the bank's spokesman, said all the bets related to Euribor 
interest rate contracts. It appears that the derivatives team expected a slower 
pace of rate rises by the European Central Bank, though it remains a mystery how
this could have led to near catastrophic losses in weeks.

The debacle is a textbook example of over-enthusiastic finance departments 
jumping into the $410,000bn (£275,000bn) derivative markets to generate extra 
yield without understanding the full risks. A low-margin leasing bank, Italease 
became enthralled by the lure of apparently easy profits in futures contracts - 
which jumped from zero in 2003 to make up a quarter of the bank's total income 
last year.

"These derivatives were very complex and suddenly turned against us. They 
started moving in a non-linear way, so the losses were rising exponentially," Mr
Arrighi told The Daily Telegraph this month.

Il Sole said the Bank of Italy's audit contained "very harsh" criticisms.

Most clients agreed to take out the positions in the belief that they were 
buying hedges to protect their business against rate rises, only to find that 
they were ensnared by elaborate forward contracts.

The bank had been in the process of raising ¤600m in a public offering 
underwritten by Mediobanca, but this may now be in doubt. Italease had ¤120m of 
derivatives positions still open, it said.

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