June 25th, 2014
This short film uses extracts from a telephone call between a bank salesman and one of its business customers to illustrate how a bank, thought to be the Royal Bank of Scotland, essentially conned a business into purchasing an interest-rate hedging product that would be seriously damaging to its health.
The other two voices are Gary Kendall, a financial analyst specialising in derivatives and quantitative finance with East Sussex based consultancy CDO2 and Peter Crowley, an actuary who has spent over 30 years in the financial services sector. The film was produced by Northumberland-based film-maker Alan Fentiman.
Once you have watched the clip, I’d recommend reading the following extract from my recently published book, Shredded: Inside RBS, The Bank That Broke Britain. In the passage, I describe how RBS became the UK’s market leader in peddling these destructive products to trusting and unsuspecting business customers during the mid-noughties, and the methodology it used to do so.
Under Fred Goodwin, RBS was the UK’s biggest peddler of these derivatives, which Barclays chairman Sir David Walker believes should never have been sold to small businesses.
In a mis-selling spree that peaked in 2005 to 2008, ex-insiders suggest the bank deliberately targeted SME borrowers who were in a ‘vulnerable’ position – perhaps they were refinancing or extending their borrowings at the time – and who also had property assets worth a multiple of their total borrowings.
The bank used a set methodology to cajole selected commercial customers into buying the swaps, also known as interest rate hedging products (IRHPs), which, in more than 90 per cent of cases, were neither requested nor desired by the customers. The sequence went roughly as follows:
(1) The bank assessed how gullible each customer was about interest rates by asking questions such as ‘could your business cope if rates rose to 12 per cent?’.
(2) The bank would then sell the customer a ‘vanilla’ loan or loan extension.
(3) The bank would then agree this loan in principle which, in many cases, prompted the customer to increase expenditure on the assumption the loan would be forthcoming.
(4) The bank’s relationship manager would then introduce the customer to commission-based salespeople from the derivatives desk of Global Banking and Markets’ (RBS’s investment banking arm), who were presented to the customer as objective ‘advisers’.
(5) The relationship manager would casually warn the customer that interest rates were historically low and likely to rise.
(6) In a presentation, ‘advisers’ would bamboozle the customer with graphs and pie-charts showing the trajectory of UK interest rates over three decades (UK rates had risen from 3.75 per cent in February 2003 to 5.75 per cent in July 2007 and customers were led to believe they would go higher).
(7) The relationship manager would express concern that, when rates rose, the customer would struggle to repay their borrowings.
(8) The relationship manager would then suddenly spring news on the customer that the promised loans were conditional on them taking out an interest-rate swap or related hedge.
(9) Business customers who were deemed to ‘muppets’ (gullible and clueless about interest rates) in step one would be sold a 10-year hedging product, which would generate tens of thousands in commission payments for bankers and the bank, even if the business person was about to retire and even if maturities on underlying loans were far shorter than 10 years.
(10) The ‘advisers’ would celebrate by pre-spending their bonuses in the bars and clubs of the City. There are reports that, on at least one occasion, swap salesmen were seen high-fiving colleagues in the pub and boasting of having ‘raped’ a small business customer.
When interest rates fell from 5.75 per cent to 0.5 per cent in the aftermath of the banking bailouts, many small businesses that had bought such products found that, as a result of their IRHPs, they were being hit with massive, punitive monthly payments that neither their relationship managers nor the super-slick salesmen had warned them about.
They also learned the bank would demand exorbitant break fees if they wanted to extricate themselves from their swap early. When business customers complained to RBS, the bank stonewalled them or insisted it had done nothing wrong or found ways of persecuting the customer. If business customers threatened legal action against the bank, the bank’s officials just laughed and told them they would not succeed. This was pretty much RBS’s stance during the first four years of Hester’s reign – and it was hardly customer-friendly.
There is clearly a whole lot more to this scandal including how RBS and other UK banks initially denied wrongdoing, how the FSA only agreed to intervene following massive pressure from the campaign group Bully Banks, the media (especially Harry Wilson at the Daily Telegraph) and the Conservative MP Guto Bebb, and the subsequent fallout of the FCA’s misconceived “review” process that permitted the banks to assess whether they have swindled their own customers and drag their heels on compensating customers for “consequential” losses.
Gary Kendall and Peter Crowley are working together to provide support for business people who believe they have been missold interest rate hedging products by banks, including swaps, collars, and structured collars.
Swaps mis-selling and the LIBOR scandal
Many SME customers and public authorities were sold swaps and interest-rate hedging products (IRHPs) as protection against interest rate rises in the period leading up to the 2008 financial crisis. Customers who were missold the swaps were not sufficiently informed of the substantial losses that they would face if interest rates were to fall.
When the Libor scandal broke in June 2012, Barclays’s illegal market-rigging activities were thrust into the limelight, including details of how the former Quaker institutions “low-balled” Libor as part of a cartel of 16 global banks and brokers with the apparent complicity of Paul Tucker, the Bank of England’s former executive director for markets.
Claimants such as Graisely Properties in the Guardian Care Homes vs Barclays case have claimed that Barclays’ sale of interest rate swaps as protection against interest rate rises, at the same time as it was conspiring to illegally lower Libor represented fraudulent misselling. In the end, Barclays paid an estimated £30 million to settle the Guardian Care Homes case out of court, in order to avoid the embarrassment of former executive directors Bob Diamond, Rich Ricci and Jerry del Missier having to testify in court.