Scrutiny of Paschi Trade Was Tough, Deutsche Bank Executive Tells Court

(Bloomberg) -- The highest-ranking Deutsche Bank AG executive to testify over a suspicious trade with Banca Monte dei Paschi di Siena SpA said the deal was legitimate and carried risk, and was not designed as a sure-fire bet to hide losses at the Italian bank, as prosecutors allege.

Deutsche Bank approved the trade, dubbed Santorini, at the height of the credit panic in the autumn of 2008. The attention paid to risk was at its highest then as losses piled up left and right, Michele Faissola, a former managing director and head of global rates at the time of the deal, said in testimony in Milan on Thursday. The transaction’s benefits and risks had passed muster with the bank’s global market risk assessment committee.

“This deal was studied with great scruple and professionalism,” Faissola, 50, said from the witness stand. “I looked deeply into risk and economic rationality.” The risk committee found that the deal was correctly accounted for as a repurchase agreement, he said.

Deutsche Bank and Nomura Holdings Inc. are on trial in Milan, accused of colluding with Monte Paschi to hide losses at the Italian lender using complex derivatives trades, leading to a misrepresentation of its finances between 2008 and 2012. Thirteen former managers at all three banks, including Faissola, were charged for alleged false accounting and market manipulation.

Banking Scion

Prosecutors say that the complex transaction Deutsche Bank helped put in place in 2008 hid more than 360 million euros ($418 million) of losses that Paschi was facing on a previous deal. They built up a winner-loser construction that was split in two parts: each prong of the bet simply wagered on an index that was the exact inverse of the other, the prosecutors allege.

Faissola, who cited back pain at the outset of the day as the reason for his posture, was questioned for more than six hours in the hot courthouse. When the witness asked for permission to take off his jacket, the judge signaled to wide relief that all present should make themselves more comfortable. Faissola, the scion of an Italian banking family, told the court that he earned about 8 million to 9 million pounds ($11.7 million) per year in his last 10 years at the bank.

The Santorini deal was conceived to diversify Monte Paschi’s risk, Faissola said. The trade had four potential outcomes at its inception and carried a real possibility that Deutsche Bank would lose money. He cited an internal analysis that the bank made at the time that was confirmed by a Federal Reserve expert when the U.S. authority investigated the deal.

According to Faissola, a crisis atmosphere hung over the corridors of Deutsche Bank at the time, only weeks after Lehman Brothers imploded; scrutiny of all the lender’s positions was at its highest. On the Saturday before the Paschi deal was approved, then-Chairman Josef Ackermann brought together Chief Executive Officer Anshu Jain, the heads of trading and risk and other executives to analyze all of the bank’s positions, Faissola said. That day, Deutsche Bank decided to cut all of its credit lines to Morgan Stanley. He read emails to show how a single, “simple” position lost 190 million euros ($222 million) over three days around the same time.

“We stopped sleeping. Markets stopped working, not only on complex products but also on simple things,” he said. “We believed that the world could end, and even Deutsche Bank could fail. This was the world in which we worked when we were asked to approve Santorini.”

Big Player

Faissola joined the German lender in 1995 at its over-the-counter derivatives division. He moved from the investment-banking division to the asset and wealth-management business in 2012, heading the newly created unit. He then left the bank in January 2016 amid a reshuffle that followed Jain’s departure.

Faissola will next be questioned by his lawyers on Sept 13, when the trial resumes after the summer break.

In a previous session, Marco Veroni, Deutsche Bank’s account manager in charge of relations with Monte Paschi at the time of the transaction, also challenged the prosecution’s characterization of the trade, saying the deal was in fact risky for the German bank and was properly accounted for by the Italian lender.

According to documents submitted to the court, Deutsche Bank’s risk committee signed off on the Santorini project in December 2008, after first securing a concession that Monte Paschi would sign a “representation letter” pledging it understood the terms of the transaction.

Index Questions

Prosecutors used internal Deutsche Bank documents and emails to persuade a three-judge panel to consider whether there were additional, aggravating circumstances that may add to the charges the bank already faces related to derivatives transactions.

The material includes an internal Deutsche Bank review highlighting that employees may have manipulated internal indexes as part of an allegedly fraudulent scheme to help Monte Paschi conceal losses. While index manipulation was the subject of some of the questions to witnesses, it is not among the charges faced by defendants at the Milan trial.

Michele Foresti, another former Deutsche Bank executive, denied in testimony released earlier this month that he manipulated the firm’s indexes and blamed his former employer for a series of "startling" errors in its assessment of the 2008 transaction, including the allegation of possible rigging.

The audit described “abnormalities” in the values of proprietary indexes used to set the price for the Monte Paschi deal in December 2008. While investigators at the Frankfurt-based bank couldn’t “unequivocally” link that to manipulation or the deal’s outcome, Deutsche Bank didn’t have any guidelines for monitoring the indexes for potential rigging, according to the audit.

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