On April 16^th 2008, the International Swaps and Derivatives Association, Inc. ("ISDA") released the results of its Year-End 2007 Market Survey of privately negotiated derivatives. In that report, IDSA reports "The notional amount outstanding of credit default swaps (CDS) grew 37 percent to $62.2 trillion in the second half of 2007 from $45.5 trillion at mid-year. Further CDS notional growth for the whole of 2007 was 81 percent from $34.5 trillion at year-end 2006. The survey monitors credit default swaps on single names and obligations, baskets and portfolios of credits and index trades." [Emphasis added]

Holy crap! No wonder there was so much concern about counter-party risk a month ago when a "run on the bank" which led to the acquisition of Bear Stearns by JPMorgan. Toomre Capital Markets LLC ("TCM") now even more appreciates the efforts of the President of New York Federal Reserve, Timothy Geithner, to clean up the credit default swap middle and back office operational issues. With growth this explosive, the major investment and global banks are particularly interconnected. From a moral hazard perspective, due to their derivatives exposures, are not all of these banks "too big to fail"? Or does this explosive growth suggest that the Capital Markets finally needs a global clearing mechanism so that there is more price transparency on what specific derivatives are worth and that there is less counter-party risk in the financial system?

In recent days, what Toomre Capital Markets LLC ("TCM") considers to be two of the most challenging Chief Risk Officer ("CRO") roles in the financial services sector have been filled. Both JP Morgan Chase with its considerable Credit Default Swap ("CDS"), leveraged loan and other large derivative exposures and Citigroup with its kitchen-sink collection of issues have named new CROs.

On Monday November 26th 2007, JPMorgan Chase announced that former Goldman Sachs managing director and chief administrative officer, Mr. Barry Zubrow, had been hired as its Chief Risk Officer. Starting December 1st, Mr. Zubrow will be reporting directly to CEO Jamie Dimon and will be a member of JP Morgan's Operating Committee. Earlier in his career, Mr. Zubrow was Chief Credit Officer and co-head of the Goldman Sachs risk committee that oversaw that investment bank's strong risk culture which is credited with helping Goldman Sachs steer clear of much of the losses associated with this year's subprime meltdown.

Apparently, CEO JPMorgan Jamie Dimon had been fulfilling this role for the bank since former CRO Don Wilson retired at the end of 2006. JPMorgan's recent performance during the credit market turmoil suggests that, unlike former Merrill Lynch CEO Stan O'Neal who apparently was off playing golf on many business days during the summer seizures, Jamie DImon was very much hands on (like Goldman Sachs CEO Lloyd Blankfein and Lehman Brothers CEO Dick Fuld were widely reported to be). Is it any wonder then that JPMorgan, Goldman Sachs and Lehman Brothers have fared relatively well during the mortgage credit crunch, especially when compared to Citigroup, Merrill Lynch, and Bear Stearns?

In response to yesterday's post Event Driven Architecture - Event Processing Moving Forward?, several other sources of information on Event Driven Architecture have been highlighted. One is a new blog by the leaders of the Apama team over at Progress Software. Another is the web site of the Aite Group.

Another reader suggested that Toomre Capital Markets LLC ("TCM") also highlight the other major vendors of software for an Event Driven Architecture. In addition to Streambase Systems (whom we mentioned is a client of TCM), other significant players in the event processing space include: TIBCO BusinessEvents, Progress Apama, Coral8, Aptsoft, Aleri, Kaskad, KX and Vhayu.

At present, the two largest vendors in the financial services vertical are probably TIBCO and Progress Apama. However, one must always take vendor reports of number of customers with a grain of salt in the financial services space since so many financial firms request anonymity as a condition of their contractual arrangements.

No doubt there are pluses and minuses to each one of these respective vendors. However, Toomre Capital Markets LLC would like to reemphasize that leading financial firms need consider the competitive advantage that Event Driven Architecture provides in the move to real-time (and continuous) trading, near real-time Enterprise Risk Management

If the reader has any questions, please feel free to contact Toomre Capital Markets LLC as indicated below. Reader comments and thoughts are welcome.

On Thursday March 1st 2007, the United States federal regulators filed civil (and unspecified criminal) charges against 11 individuals and three entities in connection with two insider-trading schemes in which insiders (employees) at UBS Securities LLC and Morgan Stanley allegedly provided inside (non-public) information that helped hedge funds, brokers and others make at least $15 million in illicit profits. According to Reuters, "eight Wall Street professionals, two broker dealers, a day-trading firm, and three hedge funds are accused of participating in a scheme that used information stolen from UBS and Morgan Stanley."

[Update: The SEC has now released a press release entitled SEC Charges 14 in Wall Street Insider Trading Ring; Defendants Include Hedge Funds, Lawyers and Professionals at UBS, Bear Stearns, and Morgan Stanley with more information on the participants. Those charged include: Mitchel S. Guttenberg; Erik R. Franklin; David S. Tavdy; Mark E. Lenowitz; Robert D. Babcock; Andrew A. Srebnik; Ken Okada; David A. Glass; Randi E. Collotta; Christopher K. Collotta; Marc R. Jurman; Q Capital Investment Partners, LP; DSJ International Resources Ltd., which does business as Chelsey Capital; and Jasper Capital LLC.]

According to The Wall Street Journal, "The Securities and Exchange Commission said that in one scheme, which was ongoing since 2001, a UBS executive director, Mitchel Guttenberg, illegally tipped off at least two traders to information about upcoming UBS analyst stock upgrades in exchange for sharing in the illicit profits. One of the traders illegally traded on the information for two hedge funds and in his and his father-in-law's personal accounts, the SEC said."

The other scheme was said to involve Randi Collota, an attorney in Morgan Stanley's global compliance department, and her husband. They apparently provided information about upcoming corporate actions to a Florida broker in exchange for sharing in the some portion of the illicit profits that resulted.

Bloomberg News is reporting on February 15th 2007 that Bear Stearns Cos. has been ordered to return at least $125.1 million to Manhattan Investment Fund Ltd., a failed hedge fund, that now is bankruptcy proceedings. This surprising court ruling likely will prompt other Wall Street firms with prime brokerage operations to scrutinize their most lucrative trading clients even more aggressively.

Burton Lifland, the U.S. judge overseeing the bankruptcy of Manhattan Investment Fund Ltd., made the ruling at a hearing in New York today. Lifland concluded last month that Bear Stearns, one of the biggest brokers to hedge funds, was trying to cover its own potential losses and didn't investigate thoroughly after learning of possible fraud at Manhattan Investment, court filings show. Bear Stearns faced returning as much as $180 million.

``Bear Stearns failed to act diligently in a timely manner,'' Lifland said in a Jan. 9 opinion, finding that the New York-based company, the fifth-largest U.S. securities firm, learned as early as December 1998 that fund manager Michael Berger may have been deceiving investors about returns.

Today's ruling adds to the pressure on securities firms to monitor hedge funds, which pay Wall Street about $10 billion annually in fees for prime-brokerage services. Federal regulators already are probing whether the securities industry sets strict enough limits when lending to hedge funds, and the U.S. Securities and Exchange Commission has said prime brokers should be a ``window'' into their dealings.

``This is going to send shock waves through many prime brokers, because they've been very careful to limit their responsibility for their customers' actions,'' Michael Missal, a former SEC lawyer and head of the regulatory practice at Kirkpatrick & Lockhart Preston Gates Ellis LLP in Washington, said before today's hearing. ``They do not want to be seen as insurers for their clients.''

Toomre Capital Markets LLC agrees whole-heartedly that securities firms do not want to be the "deep pockets" that "insure" hedge fund investors against fraud and other illegal activities that may occur at an alternative investment vehicle. The very interesting question is how much responsibility should prime brokers have for policing the activities of their hedge fund clients, especially in a world where the larger hedge funds have multiple prime broker relationships. Your thoughts on how important a ruling this is and what responsibilities prime brokers should have are most welcome.

Toomre Capital Markets LLC ("TCM") provides advisory services to firms either engaged in or providing technology to the financial services industry. Our specialties include applying emerging technology and innovative ideas to the broad field of Enterprise Risk Management

As part of our services, TCM consults closely with Advanced Micro Devices, providing subject matter expertise on the capital markets, structured finance and risk management. Another example of our work is a newly released white paper entitled "Operational Risk" that TCM wrote on behalf of AMD. We encourage the reader to review this white paper and to contact AMD or TCM to discuss thoughts and possible applications or consulting engagements.

Financial firms deal with very large amounts of money, most often electronically. Instructions are incessantly sent to execute a particular payment, loan, insurance, security, derivative or financing transaction. Funds are received here and disbursed there, many millions of times each day. Over time, significant policies, procedures, systems and controls have been instituted to help ensure that both sides complete each particular financial transaction as expected. With very high regularity, this is indeed the case. However, when the processes, people or systems fail, the losses to a financial institution can be quite significant.

As an example, in late 2005 the securities arm of Japan's second largest bank, Mizuho Financial Group, took an order to sell some stock. The preceding day 2,800 shares in a small company had been issued in an initial public offering. However, instead of selling one share of this new stock at 610,000 yen as the customer wanted, the order was somehow passed on to the Tokyo Stock Exchange as an instruction to sell 610,000 shares for one yen each!! The price and quantity amounts had been reversed. Chaos ensued. Dealers and investors scurried to buy the cheaply offered stock. Meanwhile, Mizuho first tried to cancel the order and then scrambled to buy back all of the stock that mistakenly had been sold short. The total loss from this data entry error was 41.5 billion yen (or approximately $350 million).

Now the regulatory arm of the New York Stock Exchange has fined Morgan Stanley $300,000 for a failure to provide sufficient inhibitors and blocks within its trading system that led to a massive botched trade. According to Reuters,

Since the note White Paper: "Market Risk and Algorithmic Trading" was posted, there has been considerable web traffic looking for further information on either algorithmic trading or the topic of enterprise risk management

• The Future of Real-Time Enterprise Risk Management ("ERM")
• Driving Value in Credit Products
• Adopting a New Standard for ERM in the Energy Sector
• Market Risk and Algorithmic Trading
• And coming shortly… Operational Risk Management

On Wednesday, October 11th 2006, The Wall Street Journal published an opinion piece entitled The H-P Investigation written by former Hewlett-Packard Chairwoman Patricia Dunn. It is a shame that this letter to the editor was published on a subscription news site so that it is not available to a broader audience.

As TCM has posted before, Ms. Dunn is engaged in an usual public relations campaign to promote her innocence to the four criminal charges that were filed against her and others last week in California. Normally, criminal defense lawyers urge their clients to be mum about a matter so that anything the client says or writes cannot be used to their detriment in the criminal prosecution. That is not the case with Ms. Dunn. First, Ms. Dunn testified for hours before the U.S House subcommittee under oath and then one segment of CBS' 60 Minutes show was devoted her side of the HP corporate spying scandal this past weekend.

Former HP Chairman Patricia Dunn is conducting an unusual public campaign to promote her view of her innocence to the four criminal charges that were filed in the last week in conjunction with the Hewlett-Packard corporate spying scandal. First, she went against the standard recommendation of criminal defense lawyers to not testify under oath until all evidence was in and disclosed. Instead, Ms. Dunn prepared a number of exhibits and spent close to half a day testifying under oath on September 28th before a Congressional subcommittee looking into 'pretexting' and personal privacy. Some of Ms. Dunn's comments were later used in the indictment filed by California Attorney General Bill Lockyer.

There are numerous reports on the afternoon of October 4th 2006 that at minimum former Hewlett-Packard Chairman Patricia Dunn, former HP chief ethics officer Kevin Hunsaker, Ronald DeLia of Security Outsourcing Solutions Inc., Needham, Mass., and Joe Depante of Melbourne, Florida-based Action Research Group will face criminal charges that are expected to be filed later today by California Attorney General Bill Lockyer. According to this Wall Street Journal article,

It is unclear exactly what charges Mr. Lockyer intends to bring, but one of them will almost certainly involve California Penal Code Section 538.5, which specifically outlaws "executing a scheme or artifice to obtain, from a public utility" customers' "billing records." That appears to be exactly what H-P's investigators did, by making so-called pretexting calls, using false pretenses, to phone companies, in order to obtain the investigative targets' phone records.

And the California statute makes clear that it's not only the people who obtain such information who could be criminally liable, but "every person who transmits or causes to be transmitted" the information. That nuance could prove particularly important in prosecutors' case against Ms. Dunn, who instigated the leak probes in 2005 and 2006 and has acknowledged knowing that personal phone records were scrutinized. She has said she thought the records were obtained legally.

As The Wall Street Journal reminds its readers, despite many hours of testimony before the House of Representatives Energy and Commerce subcommittee last week, "Hewlett-Packard Co. still hasn't answered a key question about its leak-investigation scandal: When did Mark Hurd, H-P's chief executive officer, learn that private phone records were being examined as part of the probe?"

As discussed previously in this TCM post, the prominent Silicon Valley law firm of Wilson Sonsini Goodrich & Rosati ("Wilson Sonsini"), was retained in July 2006 to conduct an investigation of the methods used in the Hewlett-Packard leaks investigations (Kona I and Kona II). This Wilson Sonsini analysis was started at the request of former HP director Tom Perkins, who learned to from the HP outside counsel, Larry Sonsini, that private phone records had been accessed through a method known as 'pretexting.' Apparently, a series of Wilson Sonsini investigative reports resulted summarizing interviews with various of the Kona I & II investigation participants as well as the conclusions that the law firm finally reached.

Former director Thomas J. Perkins is one of the good guys in the Hewlett-Packard ("HP") corporate spying scandal. He is largely responsible for ensuring that the leak investigation of the HP Board of Directors (including the use of pretexting) came to public attention.

Mr. Perkins resigned from Hewlett-Packard at a May 2006 Board of Directors meeting in which details of the Kona II leak investigation were shared with the eleven member board. This was the meeting that his ally and fellow director, George Keyworth, was publicly accused of the January 2006 leak(s) to CNET reporter(s). Apparently, the first disclosures to the board of some of the investigative techniques used were also made. Mr. Perkins was reported to be livid that his personal information was accessed without his permission or knowledge, and immediately left the meeting stating that he was resigning.

Under the Sarbanes-Oxley corporate governance law revisions, registered companies now must promptly file 8-K statements with the Securities and Exchange Commission whenever there is an unexpected change in the principal officers of a company (including board of directors) and if there is a disagreement, why the individual left the company. On May 18th 2006, HP filed an 8-K that stated simply "Thomas J. Perkins announced his resignation as a director of Hewlett-Packard Company ("HP"), effective immediately. The text of HP’s press release relating to Mr. Perkins’ resignation is filed with this report as Exhibit 99.1." In the press release, CEO Mark Hurd is quoted as saying:

"On behalf of HP, I wish to thank Tom for his service and dedication to our company. Since he first joined the company nearly 50 years ago, going on to serve as leader of HP’s early computer operations, an executive at HP Labs and ultimately as a director, we have benefited from Tom’s business insights and understanding of technology. He has been instrumental in championing improvements that are leading to a stronger HP. I am particularly grateful for the support he has provided to me over the past year."

This Form 8-K report by HP sounded pretty innocuous, but behind the scenes Mr. Perkins was no doubt upset. After returning from a month off, Mr. Perkins was agitating that this HP Form 8-K be corrected to reveal the true reason(s) for his resignation and that HP review its investigative methods. Partly as a result, the HP board retained the law firm of Wilson, Sonsini, Goodrick & Rosati to conduct an investigation. Mr. Perkins therefore was in contact with the outside counsel to the board, attorney Larry Sonsini. The International Herald Tribune continues:

Many tough questions were asked at the September 28th, 2006 House of Representatives hearing on the Hewlett-Packard spying scandal. Unfortunately, former chairwoman Patricia Dunn and current CEO Mark Hurd did not have credible answers about why they never questioned the legal foundation of either the Kona I or Kona II internal spying operations. As the New York Times reports here, at one point said a rather incredulous Representative Cliff Stearns, Republican of Florida, "'I get the sense that you still don’t believe that you did anything wrong.' After trying to answer obliquely, Ms. Dunn finally said, “I do not accept personal responsibility for what happened." By contrast,

an apologetic Mark V. Hurd, the chief executive and Ms. Dunn’s successor as chairman, encountered gentler questioning when he accepted blame for the spying “mess,” as he called it. “There is no excuse for this aberration,” he said. “It happened, and it will never happen again.”

There are many players in the Hewlett-Packard corporate spying scandal. Since this scandal and various legal actions are likely to be in the news over the coming weeks and months, the following "dance card" should be a useful in reminding who is who as future HP scandal news stories break:

Primary Players:

• Lawrence T. Babbio, Jr. - HP director since 2002. Vice chairman and president of Verizon Communications Inc., which earlier this year filed fraud lawsuits against Web-based business operators who engaged in pretexting. He's a board member at Verizon, HP, and the foodservice company Aramark Corp.
• Sari M. Baldauf - HP director since January 2006. Former executive vice president at Nokia. She spent 22 years at Nokia, including more than six years as executive vice president and general manager of networking. The native of Finland is a graduate of the Helsinki School of Economics and Business Administration.
• Ann O. Baskins - Former General Counsel of HP who nominally was in charge of both the Kona I and Kona II investigations. Attorney Baskins resigned ahead of her testimony to Congress on September 28th, 2006 and chose to take invoke her Fifth Amendment privledges not incriminate herself by testifying. The letter and quite interesting exhibits explaining her decision can be found here.
• Darren Brost - An Action Research sub-contractor from Austin, Texas who was subpoenaed before Congress to explain his role in actually gathering "pretexted" phone information. Elected to take the fifth.
• Ronald R. DeLia - Owner of Security Outsourcing Solutions, a Needham, MA investigative services firm, that was the primary sub-contractor used in the HP leak investigation probes. Asked to testify before Congress on September 28, 2006.
• Joseph DePante - Operator of HP leak probe sub-contractor, Action Research Group.
• Patricia C. Dunn - Former HP director from 1998 through immediate resignation on September 22nd 2006, chairwoman since 2005. Forced to step down after orchestrating the internal investigation of media leaks that has prompted state and federal investigations. Also vice chairwoman of Barclays Global Investors, where she previously served as chairwoman and CEO. The child of a vaudeville actor and a showgirl, Dunn grew up in Las Vegas. She survived breast cancer and melanoma and recently had surgery on a tumor that had spread to her liver. She worked as a freelance journalist after college before taking a temporary secretarial job at Wells Fargo Investment Advisors.
• Jim Fairbaugh - Head of HP’s Global Security group who had some degree of oversight for both the Kona I and Kona II leak probes.
• Boris Feldman - A senior partner at Wilson Sonsini, who conducted the August 2006 investigation of HP's corporate leak investigations and the legality of the methods used.
• Carleton S. Fiorina - Former CEO of HP who was forced to resign in the spring of 2005 by the HP Board of Directors.
• Anthony R. Gentilucci - Boston-area based head of HP’s global investigations unit who started with Digital Equipment Corporation and continued on with subsequent mergers with Compaq and HP. Mr. Gentilucci was a key player in the HP leak probes and has been asked to appear before Congress on September 28th, 2006.
• Richard Hackborn - HP’s lead independent director as of September 22, 2006, director since 1992 and chairman from January 2000 to September 2000. Primary adviser and mentor to Fiorina. He spent 33 years at HP, rising from laboratory engineer to vice president for the company's computer products from 1990 until his retirement in 1993. Previously served on the board at Microsoft Corp.
• John H. Hammergren - HP director since August 2005. Chairman, president and CEO of health-care management company McKesson Corp. During his tenure, McKesson doubled its revenues to $80 billion, tripled its earnings and became No. 15 on the Fortune 500. He was elected president and chief executive officer of the company in 2001 and chairman in 2002. Also director of Mexico's Nadro S.A. de C.V. and Verispan LLC.
• Kevin T. Hunsaker - A lawyer in the HP legal department who reportedly was responsible for the day-to-day activities in the 2006 HP leak probe. Also served as HP’s chief ethics officer and reported author of "I shouldn’t have asked . . . ." e-mail reply about the legality of ‘pretexting’.
• Mark V. Hurd – HP director and CEO since 2005. Chairman, CEO and President of HP as of September 22nd 2006. Previously CEO of NCR Corp. Low-key Midwesterner hired by the board under Dunn's leadership in 2005 to revive HP's sagging stock price and slumping morale. Hurd did not inherit the chairman of the board title that his predecessor Carleton S. Fiorina had.
• Charles Kelly - Another Action Research sub-contractor with his own firm CAS Agency Inc. located in Villa Rica, Georgia, who was subpoenaed and elected to take Fifth Amendment privilege against self-incrimination. Target of Cingular Wireless lawsuit filed September 29th 2006.
• Tom Krazit - One of the two co-authors of the January 23rd, 2006 CNET report that sparked the second leg of the HP corporate board leaks investigation.
• Dawn Kawamoto - Other co-author of January 23rd, 2006 CNET News report that sparked the reopening of the HP’s leak investigation.
• George A. Keyworth II - HP director since 1986. Resigned September 12th 2006 after acknowledging he was a source of media leaks. Science adviser to President Reagan and director of the White House Office of Science and Technology Policy from May 1981 to January 1986. Director of the Physics Division at Los Alamos National Laboratory, which he joined in 1968. Acknowledged leaking information to reporters and was barred by the company from seeking re-election in 2007.
• Bill Lockyer - The California Attorney General has said in September 2006 that his agency's investigation of pretexting at H-P has turned up enough evidence to charge individuals inside and outside of the company with crimes.
• Michael Moeller - HP director of corporate media relations who was an employee targeted as part of the corporate leaks investigation,
• Vincent Nye - A member of the HP global-security unit and participant in the HP leaks probe(s). Emerged during the September 28th congressional hearings as one of the few HP employees who objected to the use of pretexting as an investigative technique.
• Thomas J. Perkins - Resigned from HP board in May 2006 after discovering HP's investigators used possibly illegal methods to gain home phone records of directors, journalists and other targets. Said September 12th, 2006 he would not return to the board if asked. HP co-founders Bill Hewlett and Dave Packard invited Perkins to become the administrative head of the research department in 1963. First general manager of HP's computer divisions. Co-founded one of Silicon Valley's first venture capital firms, Kleiner Perkins Caufield & Byers, in 1972. Has been a director of Applied Materials Inc., Compaq Computer, Corning Inc., Genentech Inc., and Philips Electronics and Tandem Computers Inc.
• Valerie Preston - An Action Research sub-contractor involved in the gathering of 'pretext' information. From Cooper City, Florida, Ms. Preston was subpoenaed, but did not testify using her Fifth Amendment privileges.
• Bob Ryan - HP director since 2004. Retired in 2005 as chief financial officer of Medtronic Inc. Before joining the medical device company in 1993, served as CFO at Union Texas Petroleum Corp. Perviously vice president at Citibank Inc. and served as management consultant for McKinsey & Co. Director of UnitedHealth Group Inc.
• Lucille S. (Lucie) Salhany - director since 2002. President, CEO and founder of consulting company JHMedia. Became first woman to manage an American broadcast television network when appointed chairman of News Corp.'s Fox Broadcasting Company in January 1993. Resigned from Fox in July 1994 and became the president and chief executive officer of the nascent United Paramount Network. Supervised the production of Entertainment Tonight, The Arsenio Hall Show, Hard Copy, and Star Trek: The Next Generation.
• Bart M. Schwartz - A former U.S. prosecutor appointed in September 2006 as HP counsel to perform an independent review of investigative methods and to make future recommendations for implementing best practices
• Cassandra Selvage - Sub-contractor to Action Research who actually performed some of pretexting operations. From Dade City, Florida and was subpoenaed but took Fifth Amendment privledge.
• Robert Sherbin - Hewlett-Packard’s vice president for external communications.
• Larry W. Sonsini - Well-known Silicon Valley lawyer and long-time outside counsel to Hewlett-Packard. Also heavily involved with many companies caught up in the stock-option backdating probe(s).
• Stephen Shankland - CNET News reporter who was targeted during the HP leaks investigation as well as his wife and his father.
• Bryan C. Wagner - 29 year-old man who once worked for Action Research Group in Florida and is rumored to have obtained some of the private phone records in the Hewlett-Packard spying case. Once lived in Omaha; now lives in Littleton, Colorado. Was one of five private investigators subpoenaed and subsequently took the Fifth before Congress.
• Robert P. Wayman - HP director from 1993 to 2002. Rejoined board in 2005. HP's CFO since 1984. Interim CEO in early 2005, after Fiorina was fired and before Hurd's hiring. Joined HP in 1969 as a cost accountant. Director for Con-Way Inc. and Sybase Inc.