For Refco's shareholders, bondholders and creditors, the cost of the deception may exceed several billion dollars. Bawag also jeopardized the deposits of 1.3 million school teachers, mechanics and other workers across Austria by funneling undisclosed loans to Refco and becoming entangled in Yasser Arafat's casino.
Since Refco's collapse, the disclosure of Bawag's dealings with the brokerage has triggered a wave of withdrawals from the bank. Austrian Chancellor Wolfgang Schuessel opened a savings account at Bawag in May in a show of support aimed at preventing a run on the bank.
Offshore Accounts
Refco's flameout can be traced to Bawag's use of offshore accounts to disguise its own failed investments while helping Refco conceal as much as $1 billion in trading losses, according to documents compiled by Austrian and U.S. investigators.
Bawag dumped uncollectible loans into the Refco brokerage account of a British Virgin Islands fund called Liquid Opportunities and then into companies based on the Caribbean island of Anguilla.
``Their risk appetite was very high, and their transparency was very low,'' Nicola Venedey, a senior analyst at Moody's Investors Service Inc. in London, says of Bawag.
Venedey says Bawag management's inability to provide checks and balances led Moody's to downgrade the bank's financial strength rating on May 31 to E+ -- meaning ``very modest'' strength, two notches above the lowest grade -- from C+, defined as ``adequate.''
`Bank Within the Bank'
The former top executives at Bawag, Austria's fourth-largest bank, ignored internal procedures when investing in and lending to both the casino and Refco, says Harald Raffay, who has been the head of Bawag's international department since 1996. He says his fellow bankers never informed him of those transactions.
``We're working like dogs, and then it turns out there's a bank within the bank,'' Raffay, 58, says.
In 1999, Bawag paid about $95 million for 10 percent of Refco, the biggest U.S. independent futures brokerage at the time, and then loaned it more than $1.6 billion over six years in so-called round-trip loans that Refco used to pad its accounts, according to a June 2 settlement agreement with U.S. prosecutors in New York.
After Refco booked its earnings for the year, it repaid Bawag.
``Decisions regarding Refco never crossed my desk, even though it was the most international business,'' Raffay says.
Bawag for Sale
Bawag's owner -- the Austrian Trade Union Federation, which consists of 13 groups, including metalworkers, agricultural workers, artists and sports teams -- has decided to get rid of the bank, founded by Socialist Chancellor Karl Renner in 1922 to provide financial services to workers. It has hired Morgan Stanley to find a buyer.
Bawag's hidden dealings also included an investment company founded by the late Palestinian leader Yasser Arafat, more than $1.3 billion in secret hedge fund losses and a tangle of Caribbean holdings, including phantom bonds Bawag used to disguise bad loans as an investment the bank valued at 350 million euros ($443 million).
These findings come from interviews and documents gathered in Anguilla, Austria, the Bahamas, France, Israel, Libya, Liechtenstein, Malta, the Palestinian territories and the U.S.
Even as Bawag tries to clean up its accounts for a planned sale of the bank, it's staking out new ventures on the fringes of the financial world.
Last year, it opened an office in Libya, the African nation led by Muammar Qaddafi that was considered a sponsor of terror by the U.S. State Department for 27 years, until May.
`I Knew Nothing'
Bawag's dealings with Arafat and Qaddafi are consistent with its history as a labor union bank allied with the Social Democrat Party, previously the Socialist party, whose one-time leader, former Austrian Chancellor Bruno Kreisky, forged relationships with both Arab officials.
In Vienna in 1979, Kreisky received Arafat, then the Palestine Liberation Organization chief, as a fellow head of state.
Raffay says Bawag's Libyan office is a proper and transparent business move by a bank that was lucky enough to get a license to operate in the country that holds Africa's largest crude oil reserves.
He contrasts the office in Libya with the bank's dealings with Refco and the casino transactions. ``I realized I was being cut out of these deals, and now I'm happy,'' he says. ``I can go before a judge and say I knew nothing.''
Bawag's Oasis investment became a 120 million-euro liability for the bank, according to Bawag CEO Ewald Nowotny, who was hired in January to clean up the mess.
Riding Shotgun
The casino, which accepted only U.S. dollars, had 124 gaming tables and 278 one-armed bandits. It raked in so much cash, according to casino financial reports, that guards, with Palestinian Authority security personnel riding shotgun, made daily trips in compact cars to Arab Bank Plc's downtown Jericho branch to deposit as much as $1 million at a time.
Because the casino was forced to close, Bawag's loss in that investment is about equal to its profit in 2004. The bank earned 113.3 million euros that year. Losses related to Refco and the casino chopped 2005 profit to just 6.3 million euros, the bank said in a statement on June 6.
The public unraveling of Bawag's casino investment, its trading losses and its secret dealings with Refco started on a single day last year, marking the beginning of a crisis that threatened the Austrian bank's existence and forced Refco into bankruptcy.
Loan to Bennett
The day was Oct. 10, when Refco went public with the news it had a hidden deficit. Bawag sold its stake that day in offshore Liquid Opportunities and the related Anguilla companies Bawag used to hide losses, according to evidence gathered by Austrian investigators.
The buyer was Thomas Hackl, Bawag's former head of treasury and investment banking, three people close to the investigation say. Hackl, 41, left Bawag to work at Refco as head of global asset management from 2002 to 2004.
Just hours before Refco revealed its losses, Bawag loaned Refco CEO Phillip Bennett 350 million euros, according to Bawag, which sued Refco in November to get the money back. Bennett used the Bawag loan to pay debts to Refco that he'd been hiding for years, according to court filings in the U.S.
A U.S. grand jury indicted Bennett for fraud in November. He pleaded not guilty and is awaiting trial.
Bawag's relationship with Refco is now being picked apart in a series of civil and criminal probes in New York, Vienna and Washington. Bennett, ousted by Refco's board in October, is the only person criminally charged.
$683 Million Settlement
U.S. Attorney Michael Garcia in Manhattan accused Bennett, 57, of fraud after Refco disclosed he'd failed to inform investors of loans the company wasn't able to collect.
Others investigating Refco's collapse and Bawag's role in it include the U.S. Securities and Exchange Commission, Austria's Financial Market Authority and prosecutors in Vienna.
Bawag said on June 5 it would pay shareholders, creditors and regulators at least $683 million as part of a settlement with the Justice Department and the SEC. The agreement allows the bank to escape criminal charges in the U.S. Federal investigations of the individuals involved are continuing.
Bawag's role in helping Refco hide its debts was egregious in the eyes of U.S. law enforcement agencies because the bank was planning to profit by unloading its own stake in Refco, says Scott Friestad, the SEC official overseeing the agency's probe.
South of France Villa
``The bank's former executives understood that the deceptive year-end transactions would help Phillip Bennett and Bawag cash out their ownership interests at the expense of innocent investors,'' Friestad says.
Most of the suspect dealings happened under the management of Helmut Elsner, Bawag's CEO from 1995 to 2003, who got his start in Bawag's branch in Graz, Austria, and whose wife owns a penthouse constructed on the roof of the bank's headquarters in Vienna, investigators say.
Elsner, 72, today spends his time on France's Cote d'Azur, where he drives a red Ferrari and lives in a villa in the hills outside Cannes. He entertains guests at the nearby restaurant Le Moulin de Mougins, which has been awarded two stars by the Michelin Guide.
His lunches typically include mature Bordeaux at about 500 euros a bottle, according to a restaurant staff member who asked not to be named because Elsner is a regular customer.
Reached by telephone inside his gated hillside enclave in May, Elsner declined to be interviewed. ``Contact my lawyer in Vienna,'' he said.
`Shot at Dawn'
His attorney, Wolfgang Schubert, says that Bawag's transactions were legal and approved by the bank's auditors and the board.
Under Elsner's leadership, Bawag devised a coverup with Bennett, a Briton who studied geography at the University of Cambridge, for their mutual losses, according to the June 2 settlement.
The plaintiffs include Newport Beach, California-based Pacific Investment Management Co., the manager of the world's biggest bond fund, which bought Refco securities with a face value of $82.7 million from August 2004 to October 2005.
Raffay blames the arrogance of Elsner for the bad investments and coverups. ``You speak against him and you were shot at dawn,'' he says.
Otto Karasek, the managing director of Bawag Malta Bank, a subsidiary based in the Mediterranean island nation, also points the finger at his former boss. ``A lot had to do with the culture of the time and the CEO, Elsner,'' Karasek says. ``You didn't dare speak against him.''
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