The Worst Bank in the World? HBOS’s Calamitous Seven Year Life

February 27th, 2010 (updated June 22nd, 2012)

HBOS’s entrance on The Mound; Image: The We

Lessons must be learnt from the short and calamitous history of HBOS, the bank which effectively went bust in September 2008, writes Ian Fraser (Note: This article was first posted under the headline “HBOS: When did the rot set in? And were shareholders asleep at the wheel?” on October 2nd, 2008 but has since been extensively updated).

At best, there were appalling corporate governance failures at the failed British bank HBOS, with an obsession with growth taking precedence over risk management and prudent banking practice immediately after Sir James Crosby became chief executive and Lord Stevenson of Coddenham chairman of the merged HBOS group in September 2001.

At worst, the bank was dangerously out-of-control and riddled with fraud and alleged criminality, having been pump-primed by its management to deliver maximum short-term profits growth and maximum rewards for executives, irrespective of whether its lending was reckless or whether the bank had a chance of surviving long term — or whether its shareholders, creditors, depositors, customers and staff got burnt.

Throughout the bank’s calamitous seven-year life, the Financial Services Authority (FSA) and other authorities, for the most part, turned a blind eye or even sought to cover up the bank’s blatant wrongdoing and recklessness. In at least two cases that I am aware of, the UK’s Serious Fraud Office and Crown Prosecution Service appear to have “rigged” criminal trials in order to scapegoat suppliers and advisers to the bank (some of whom are already in jail) to ensure the bank and its senior executives escaped justice.

This “wagon circling” to protect the bank’s miscreant top brass intensified after chancellor Gordon Brown appointed his close friend James Crosby a director of the FSA while Crosby remained as chief executive of the bank, in January 2004. After that, any attempt to properly regulate HBOS was abandoned. The consequences for many of the bank’s customers, staff, shareholders, Lloyds TSB shareholders, and British taxpayers have been dire.

Jan 12, 2001:   Halifax throws down the gauntlet to the ‘big four’ banks with the launch of an interest-bearing current account that pays annual gross interest of 4.07% provided customers pay in £1,000 a month. The new account is advertised using a TV commercial featuring Howard Brown, a customer services representative from the bank’s Sheldon, Birmingham branch, created by advertising agency Delaney Lund Knox Warren (DLKW)

Feb 2001: Under the leadership of chief executive James Crosby, Halifax plc splashes out £1bn for the bulk of mutual insurer Equitable Life, an insurance brand so toxic that other potential bidders won’t dare touch it.

April 17, 2001:  On the rebound from his failure to acquire National Westminster Bank, Peter Burt, chief executive of Bank of Scotland, holds preliminary talks with Crosby about a merger with Halifax. The talks, brokered by the blue-blooded stockbrokers Cazenove, are held in Halifax’s now notorious company flat in London’s Jermyn Street. On April 24, the (Glasgow) Herald breaks the story that the two banks are in merger talks.

April 29, 2001:  The Sunday Herald reveals that most leading institutional investors favour Crosby over Burt as chief executive of the merged bank. “Burt’s Last Supper”, at which Peter Burt decides to quit the bank, follows (see Deal of the Year).

May 4, 2001:  Halifax and BoS formally announce their merger. Following Burt’s decision to step down,  Crosby will become chief executive and Halifax chairman Lord Stevenson will become chairman. The merged bank outlines plans to axe 2,000 jobs from a combined staff of 60,000 and cut annual costs by £305m a year. The banks make a “very strong commitment” to maintaining their headquarters in Edinburgh. Crosby claims the bank has a “war chest” to cause pain for the UK’s ‘big four’ banks – Barclays, HSBC/Midland, Lloyds TSB and RBS/NatWest

May 2001: Fraser Mackay, head of specialist mortgages in Bank of Scotland’s Manchester branch, allegedly starts urging clients to take out equity-release term loans with BoS on condition the money is “invested” in the Vavasseur Corporation ‘Ponzi’ scheme. After the victims lose some $250m (because Vavasseur is a fraudulent scheme), the bank seeks to repossess their homes. Shin Gangar and Alan White of accountancy firm Dobb White & Co are later convicted and jailed for seven and a half years each for their role in the fraud. Despite its alleged complicity in peddling and/or legitimizing the fraud, BoS  evades prosecution with the apparent aid of the FSA and Serious Fraud Office (see The bank, the regulator and the Vavasseur fraud).

Aug 2001:   Peter Cummings (pictured left), managing director of corporate banking at Bank of Scotland, tells the Edinburgh Evening News he has been given practically an open chequebook by the bank’s board to invest in joint venture companies alongside customers of the bank. Targeted sectors include housebuilding and commercial property. The board’s decision to allow Cummings such autonomy followed successful deals Cummings had struck with the Topshop owner, Sir Philip Green.

Sept 10, 2001:   The Bank of Scotland completes its nil-premium merger with Halifax, with Burt remaining as executive deputy chairman “to oversee integration”, Crosby as chief executive and Stevenson as chairman. According to the PR hype, the deal brings together some of the UK’s best-known financial services brands – including Bank of Scotland, Birmingham Midshires, Clerical Medical, esure, Halifax and Intelligent Finance – covering banking, insurance and asset management. The bank throws down the gauntlet to larger rivals, adopting the slogan “the new force in banking”. In the mortgage market the financial ombudsman rules that Halifax has mistreated borrowers by only allowing new customers access to its lowest rate. Shares in the merged bank, known as HBOS, perform well on their first day of trading.

Sept 11, 2001:  Shares in the merged bank fall in line with other financial stocks  following the terrorist strikes on New York and Washington DC.

Dec 23, 2001:  In an interview for the Sunday Herald (see Dealing in futures and the past), HBOS executive deputy chairman Peter Burt tells me that :

“Our corporate banking business is growing at 25%. This is because we’re shooting with an elephant gun where before we had a .22 rifle. Now we can go after big game.”

In the same interview, HBOS chief executive James Crosby describes the ‘big four’ banks – RBS/NatWest, Lloyds TSB, HSBC and Barclays – as “a competition failure, not a market.”

Feb 27, 2002:   City investors are nonplussed when HBOS mounts a £1.37bn cash call (“placing and open offer”), apparently to fund asset growth. Banking analysts who doubt HBOS’s need for fresh capital include John-Paul Crutchley of Merrill Lynch. He says: “It’s purely opportunistic. Investors are being ask to give over £1bn so that they can start a price war.” HBOS shares fall 65p to 740p, despite maiden profits of £2.6bn. (See HBOS shocks with cash call)

Feb 2002:   A notorious flip-chart is found by The Sun in a disused Halifax branch in Manchester. A handwritten note on the flip-chart advises trainee business bankers to turn away business from “start-ups, taxi drivers, window cleaners, market traders, shops or supermarkets.” (see HBOS gaffe).

March 2002:   Widespread outrage as HBOS appears to lie when seeking to end a long-running dispute over Halifax’s two-tier mortgage rate. Halifax agrees to pay £7m in compensation to 30,000 customers but says customers who have not yet complained will be ineligible for compensation, implying they’d be unable to complain to the Financial Ombudsman. Halifax claimed the latter arrangement had been confirmed by the ombudsman. However the Ombudsman later says this is untrue. Yet Halifax refuses to take the misinformation off its website. “Shameful”, “Pitiful”, “Bizarre”, “Penny pinching, “Descended to the gutter”, are just some of the phrases used to describe HBOS’s behaviour (see transcript of BBC Radio 4’s Money Box 9 March 2002).

May 2002:   Lord Simpson of Dunkeld, the man who destroyed Marconi, is jeered by shareholders at the bank’s Edinburgh annual general meeting as he is forced out  as a non-executive director. Shane O’Riordain, HBOS communications director, confirms a report that the bank’s bonus schemes for directors will allow Burt and Crosby to each earn bonuses of up to £10m on top of salary over the three-year term. Other directors could be in line for bonuses of between £6m and £7m over the same period.

July 2002:   As it rides the UK property boom, the bank pledges to beat all financial targets for the full year. Interim pre-tax profits climb 13% to £1.5bn, and the bank announces its share of net new mortgage lending has climbed to 31%, ahead of its target of 25%.

Sept 2002:   Launching an aggressive push to persuade current account holders to switch to HBOS, the bank’s chief spokesman Shane O’Riordain, says: “We do aim to be a member of the big four club, but we have no intention of being a well-behaved member.” (see HBOS taunts Big Four).

Oct 23, 2002:  HBOS chief executive James Crosby becomes a member of the Financial Services Practitioner Panel, a shady group whose main role seems to be to exert pressure on the FSA to ensure it does not properly police the banking sector or the financial markets. (see FSPA press release)

Late 2002:   The FSA conducts a full risk-assessment of HBOS, known as an Arrow assessment. It identifies the need to “strengthen the control infrastructure within the group”. It also commissions a report from PricewaterhouseCoopers on HBOS’s risk-management framework.

Peter BurtJan 6, 2003:   Burt steps down early as executive deputy chairman of HBOS, having overseen integration. He tells the Telegraph that the Bank of Scotland he joined is “like chalk and cheese” to the current HBOS. Burt is replaced as governor by the merged bank’s head of corporate banking, George Mitchell and Sir Ron Garrick takes the HBOS deputy chairman role (see The Mound’s new Governor).

Jan 20, 2003: In an interview with former Legal & General fund manager David Rough, James Crosby reveals that he’s suffering from dangerous delusions about the UK property market. He tells Rough:

“We’re just not heading for a significant set back in house prices … We don’t foresee a difficult cycle in commercial property” (See Did Crosby do anything to stop HBOS’s wheels coming off?)

Jan 2003:  The bank’s total exposure  to Murray International Holdings, holding company of favoured entrepreneur and Rangers owner David Murray, has soared to £139m, up from £97m the previous year (see: The football money league)

Feb 2003:   HBOS says annual profits rose 22% to £2.9bn for the year to December 2002. The bank is now selling three times more mortgages than its nearest rival, Abbey National. Crosby defends the bank’s push into corporate banking, including loans to entrepreneur Philip Green, even though other players are pulling back from that market for fear of bad debts.

Feb 2003:   The FSA fines Bank of Scotland £750,000 over administrative failures at its PEP/ISA division. The FSA says: “This put 30,000 PEP and ISA customers at risk of losing money and also exposed BoS to increased risks of fraud.”

March 2003:   Lord Stevenson first meets the retail tycoon Philip Green at a private Bank of Scotland dinner and is reportedly “blown away”. Stevenson suggests Green might want to consider bidding for Marks & Spencer with HBOS’s support (source Jeremy Warner in The Independent).

April 2003:   HBOS comes under fire for reckless lending into the UK mortgage market and for lending people six times their annual salaries to buy houses. O’Riordain seeks to downplay the story claiming: “There’s a theoretical possibility that customers could be offered six times their salary but there are stringent conditions attached. He claims Halifax’s lending is at “the prudent end of the spectrum”.

Oct 7, 2003:   At a Merrill Lynch banking conference, Crosby berates the UK government for over-regulating banking and financial services. He says:

“In retail, we’ve had … numerous banking enquiries, most notably Cruickshank’s, and most recently unnecessary meddling in the SME banking sector.  None has either improved competition or access for customers. And Sandler looks like being no exception.”

Oct 3, 2003:  HBOS claims to be on track to double its share of the UK business banking market from 3% to 6% by end 2004. The bank also says chief executive of business banking, Colin Matthew, is moving sideways into a newly created international and strategic role. HBOS says the business banking division will be subsumed into retail banking, under Andy Hornby. Larger SMEs will be shifted into corporate banking under George Mitchell, the bank’s head of corporate banking. The bank also announces that chief executive of treasury Gordon McQueen will retire in December, and is to be replaced by head of treasury Lindsay Mackay. Alan Weatherston, analyst at Collins Stewart, says McQueen’s early retirement came as “no surprise” and the bank’s treasury was ”fairly plain vanilla” with few risks attached.

Oct 27, 2003:   Mortgage Madness: HBOS subsidiary Birmingham Midshires suspends three mortgage advisers after investigating allegations that customers were encouraged to lie about their salaries on mortgage application forms. Birmingham Midshires also suspends sales of “self-certification” mortgages (or “liar loans”). Other HBOS subsidiaries allegedly implicated in rampant mortgage fraud include Bank of Scotland and The Mortgage Business. The allegations were made on the BBC’s Money Programme following an investigation by reporter Michael Robinson, which was broadcast on Wednesday October 29.

Nov 2003:   The FSA fines HBOS’s majority-owned subsidiary St James Place £250,000 for monitoring and record-keeping failures. The FSA says it found:

“Serious monitoring and record keeping inadequacies. These failings exposed investors to the risk of surrendering existing investment contracts and committing money to new investment contracts in circumstances where this may not have been in their interests.”

Nov 2003:   Bank of Scotland Corporate starts to force mid-sized corporate customers in the South-east of England to appoint the known embezzlers Michael Bancroft and Tony Cartwright as directors. Bancroft and Cartwright, who misappropriated £1.4m from Ritz Design Group PLC, where they were respectively chairman/chief executive and finance director, in 1991 had resurfaced as self-styled  ‘turnaround consultants’ with David Mills’s consultancy Quayside Corporate Services. Despite the consultants’ history of defalcation, the bank forces up to 200 of its SME customers to use Quayside. The consultancy was established in 2002, apparently by HBOS, apparently with a view to imposing such people as directors on customer firms.

Dec 1, 2003:  In an Arrow assessment & risk mitigation programme, the FSA expresses concern about the ‘sales culture’ inside HBOS’s retail division. The regulator states:

“There has been evidence that development of the control function in the Retail Division has not kept pace with the increasingly sales-driven operation… There is a risk that the balance of experience amongst senior management could lead to a culture which is overly sales focused and which gives inadequate priority to risk issues.”

Dec 2003:   In the calendar year 2003, Moody’s says HBOS issued at least £13bn of residential mortgage-backed securities (RMBS) through Permanent Financing (Halifax), Mound Financing (BoS) and its covered bond programme. This is just under half the total value of RMBS issued in the UK that year.

Dec 2003:  The FSA says it has identified some serious internal audit issues including lax anti-money-laundering controls. The regulator says it found unacceptably high levels of non-compliance with record-keeping procedures across BoS’s retail, corporate and business divisions and an “absence of effective systems and controls in respect of its record-keeping policies and procedures”. Andrew Proctor, the FSA’s director of enforcement, says the failures

were particularly serious as they undermined the bank’s ability to comply with the requirements of orders served by law enforcement agencies under the Proceeds of Crime Act.”

Jan 2004:  The Financial Services Authority warns HBOS that its pace of expansion made it an “accident waiting to happen“, according to finance director Mike Ellis. He presented the FSA’s risk assessment at a  board meeting, during which he relayed the FSA’s message that the “group’s growth outpaced its ability to control risk.”

Jan 12, 2004: The FSA fines HBOS £1.25 million for the sloppy internal auditing and lax anti-money-laundering controls that it identified at HBOS the previous month (see: ‘FSA identified’ above). The FSA final notice states that:

“the widespread nature of the breaches [which mainly relate to the period 2002-03] meant that BoS was unable adequately to monitor the effectiveness of the customer identification aspect of its anti-money laundering policies and procedures…”

across its retail corporate and business divisions. The FSA said the breaches were so serious it considered whether criminal prosecutions were appropriate.

Jan 13, 2004:   Amid a furious row over the closure of the Head Office branch on James Crosby; image courtesy of Daily Mail the Mound in the Edinburgh, and a spate of complaints about poor customer service in the wake of the botched integration of Halifax and BoS, Crosby issues a mea culpa to customers. In an article in The Scotsman, Crosby says HBOS had under-estimated the strength of the Bank of Scotland brand and that, in the haste to complete the £30 billion merger of BoS and Halifax, the banking group had experienced “problems which have made life difficult for colleagues and disrupted our service to customers”. He declared the bank had rethought its branding adding:-

“We freely admit that we have had problems which have disrupted our service to customers … We would not hesitate to apologize to customers and colleagues who have suffered in the meantime.”

Jan 15, 2004:   Crosby (pictured right) joins the FSA’s board of directors. An appointee of the chancellor Gordon Brown, Crosby remains on the regulator’s board, latterly as deputy chairman, until February 2009. After January 15, 2004, all fines from the regulator mysteriously dry up, and the regulator basically gives up any attempt to properly regulate HBOS.

Feb 2004:  HBOS’s pre-tax profits soar by 29% to £3.77bn for the year to December 2003. Profits from retail banking increase 19% to £1.7bn, while business banking profits jump 32% to £404m. Share of net lending in UK mortgages reaches 25%, against a target of 23%. The bank claims: “After three years of a strong housing market, there’s no room for complacency. We have, and will continue, to tighten our lending criteria.”

Feb 2004:   The Stadia Group, founded by former Bank of Scotland treasurer and deputy general manager Gavin Masterton before his retirement from the bank in 2001, collapses into receivership owing the bank a reported £28m. Kevin McCabe’s Scarborough Development Group steps in to mop up the mess, prompting complaints to the FSA about the bank’s abuse of off-balance-sheet vehicles to massage its bad debt position (see Keane’s last stand).

Feb 2, 2004:  With Livingston F.C. on the brink of bankruptcy, the Herald reports that HBOS, which controls £110m of the Scottish Premier League’s £160m debt, is rapidly losing patience with its football club clients. Darryl Broadfoot reports: “If the bank is now beginning to tighten the noose on its SPL clients, several other premier league clubs, including Rangers, will be under pressure to make savage cuts.” The article also claims Hearts, Aberdeen, Dundee United and Dunfermline are in financial difficulties. Dundee United chairman Eddie Thompson urged the Scottish Executive to take action to prevent SPL meltdown. Aberdeen chief executive Keith Wyness called Scottish football “a car crash waiting to happen” and said the situation will get even worse. “If you continue to spend money you don’t have you will eventually find trouble.” (see SPL in crisis as bank gets tough).

Mar 2004:  HBOS issues a public apology and claims it will a review its lending policies after admitting to funding the acquisition of 45 pornographic magazines from the Daily Express owner Richard Desmond. Titles purchased include Asian Babes, Readers’ Wives, Mothers-in-Law and 60 Plus. But that bank refuses to follow the example of co-lender Bank of Ireland and withdraw its funding (see Bank apologises).

Mar 2004:   It emerges HBOS has offered head of retail Andy Hornby a £2m bung in share options to try to keep him at the bank. The “special incentive arrangement” is disclosed in HBOS’s annual report. O’Riordain says: “It is in the interests of our shareholders that [Andy] stays with us. He has transformed our retail banking operation.” (see Hornby gets £2m).

April 2004:  Accountancy firm PricewaterhouseCoopers (PwC) completes a S166 inquiry into the “devolved model of risk management at HBOS. PWC concluded that the model used is “conceptually well-designed” and “appropriate for HBOS” (see supplementary memorandum from Lord Stevenson). According to a detailed memorandum from Paul Moore, HBOS’s former group head of regulatory risk the S166 skilled person’s probe arose because the FSA was:-

“concerned about the level of oversight, challenge and functional leadership being carried out by group risk functions of the risk management in the operating divisions.”

May 30, 2004:  Eyebrows are raised in the City after it emerges that retail tycoon Sir Philip Green has appointed HBOS chairman Lord Stevenson as a non-executive director of the vehicle Green is using to acquire Marks & Spencer. Lord Stevenson is to become senior independent director of M&S if the takeover succeeds, according to the Guardian. He would also be responsible for hiring the M&S chairman and other non-executive directors. HBOS had earlier bankrolled Green’s bids for Arcadia Group, BhS, Sears and Shoe Express and is one of the consortium of banks lending money for the M&S bid alongside Barclays, RBS, Merrill Lynch and Goldman Sachs. The Guardian reported that Lord Stevenson would not be HBOS’s representative on the board and the position has been approved by the bank (!!) “He is more than capable of managing any conflict of interest if one should arise,”  an HBOS source [perhaps Shane O’Riordain?] told the Guardian.

April 2004:   CEO James Crosby fails to appear at the HBOS’s annual meeting in Birmingham. His absence is blamed on viral conjunctivitis. An HBOS spokesman says it is Crosby’s first day off because of sickness in five years. Lord Stevenson tells the annual meeting that Crosby’s conjunctivitis is contagious and told sharehoders “not to read anything sinister into this”.

May 2004:  Shane O’Riordain (pictured left) is once again forced to apologise — this time over appalling standards of service and “contemptuous treatment” meted out by the 1,000 HBOS staff working in customer services for Equitable Life (see Morally, what you’re doing is theft).

July 2004:   At a meeting to discuss sales of a corporate bond fund, Paul Moore, group head of regulatory risk, is told not to make a “f***ing enemy of me” by the bank’s saleswoman extraordinaire Jo Dawson. Following an in-depth survey of the bank’s retail division, Moore has concluded that the bank has become so sales and growth-obsessed important functions like risk management are being side-lined. But his warning is ignored by the audit committee, chaired by Anthony Hobson, and board of directors.

Aug 2004:   The bank’s spokesman Shane O’Riordain talks up the possibility that HBOS will make a £10bn counter-bid for Abbey National, which is already the subject of a takeover bid from Spain’s Santander. HBOS appoints advisers including Lazard and Cazenove, as analysts and institutional investors urge it to proceed with a counter-bid. As part of the bank’s campaign,  O’Riordain seeks to blacken Santander’s name by alleging corporate governance abuses and highlighting fact that Santander chairman Emilio Botin is due to stand trial for misappropriating funds. “Kettle” and “black” spring to mind here.

Sept 2004:  Sir James Crosby hires a crack team of 30 integration experts from KPMG’s transaction services arm to try to make the numbers for a potential £10bn bid for Abbey National stack up. The bank is reportedly targeting annual cost savings of £770m which would require 8,300 job losses, plus offloading Birmingham Midshires and Intelligent Finance to placate competition regulators. See: HBOS calls in KPMG integrators to make £10bn Abbey bid add up

Sept 15, 2004:  Crosby scraps plans to take over Abbey National after the UK authorities fail to deliver the “truncated” competition commission inquiry he was seeking. Crosby’s decision to withdraw at the eleventh hour is welcomed by bank analysts and interpreted by Standard Life Investments as “a statement of confidence in its own business prospects.” (see HBOS focuses on rebuilding)

Sept 2004:  A formal complaint is lodged with John Tiner, chief executive of the FSA, that HBOS is using a lattice-work of off-balance sheet vehicles part-owned by favoured corporate borrowers, including Scarborough Development Group owner Kevin McCabe, to disguise its true corporate bad debt position and mislead investors.

Like others, the complaint fell on deaf ears at the FSA’s Canary Wharf HQ.  The regulator responded by saying that it did not police “business models”.

Oct 2004:   A report by head of group regulatory risk Paul Moore (pictured left) warns that the bank’s sales-obsessed culture and inadequate internal controls mean it is headed for collapse. The report stated that HBOS is “going too fast” and had become “a serious risk to financial stability and consumer protection”. According to evidence later submitted to the Treasury Select Committee, the bank’s finance director Mike Ellis ensures that neither the audit committee nor the HBOS board has sight of Moore’s report. (See: The Moore Memo)

Nov 9, 2004:   Bank of Scotland grants a £37m facility to Rangers, even as the football club launches a £57m share issue. Bizarrely, the  club’s owner David Murray insists he is determined to eradicate Rangers debt as quickly as possible!

Nov 23, 2004:  After Paul Moore, who was only doing his job, complains about the suppression of his report, Crosby personally fires him. Crosby writes him a letter, stating that the decision to eliminate his role and replace him with someone who lacked knowledge or experience of risk management (the saleswoman extraordinaire Jo Dawson) was “mine and mine alone”.

Nov 28, 2004:  A business manager at Bank of Scotland, Alistair Wilson, is shot dead on the front doorstep of his home in Nairn. Despite suggestions that Wilson may have uncovered serious financial irregularities at the bank, his murder remains unsolved to this day.

Dec 2004:   The bank announces details of a share buyback of up to £750m and declares that its 2004 profit will beat forecasts. HBOS shares are on a roll…

Jan 2005:   After Crosby appoints saleswoman extraordinaire Jo Dawson to replace Moore as head of group regulatory risk, the risk management function is “dumbed down”, according to the whistleblower Anthony Smith. Crosby appointed Dawson even though she has limited experience, knowledge, or understanding of risk management or regulation, Moore later alleged.

Jan 31, 2005:  The bank has dramatically increased its overall exposure to David Murray’s Murray International Holdings, majority owner of Rangers, to £500m, up from £164m one year earlier. See Murray hits out at executive)

Feb 21, 2005:   Further to a complaint about the bank’s abuse of off-balance-sheet vehicles to mask its bad debt position (see Sept 2004), and in particular to cover up the fiasco of Stadia Group / Stadia Management, a Scottish businessman writes a letter to the FSA. Stadia Group was founded by former Bank of Scotland treasurer and managing director Gavin Masterton ahead of his retirement. Sources claim that the circa £28m the bank lent to Masterton to fund his own start-up business did not go through the proper risk-management and credit vetting procedures. The money was lost when the venture went bust in February 2004. The letter to the FSA sought to alert the regulator to the bank’s questionable behaviour after the Stadia businesses went bust:-

This complaint involves the professional actions of the former Treasurer and Managing Director of [Bank of Scotland], and the subsequent behaviour of [HBOS] in clearing up these alleged irregularities, which would appear to involve the hiding of substantial debt write-off and the resulting over-inflation of the asset value of the [bank’s] balance sheet.

It requires a full inquiry and a public statement from the institution about whether it allows its senior executives to conduct business on their own behalf while running a [listed banking group]. This is a matter of public interest and needs clarification by the FSA. Given the status of the individual concerned … then I would assume that this would have merited a more detailed investigation … One fundamental question needs to be raised about whether the operations of a secret bank account held in the British Virgin Islands, called Charlotte 18, was acting in the best interests of the customers and shareholders of the Bank of Scotland. Were money laundering processes and procedures clearly followed? Clearly not, given that the current office-bearers of the bank, as recently as October 2004, did not know of the existence of this company and the fact that it was the parent company behind some of the former Managing Director’s companies …  I refer you to the legal case of Woods versus Martins Bank, which states that a bank manager has a “fiduciary duty” to act in the customers’ best interests. Mr DK claims this is not the case in relations to the Bank of Scotland. Mr DK knew nothing of the activities of Charlotte 18. And Mr DK claims that in “fixing” this position the parent company, HBOS, has used assets to cover up the bad debts caused by the collapse of a company run by the former Managing Director of the Bank of Scotland. Such serious irregularities need to be properly examined by competent and independent authorities.

What is concerning is that the FSA can make a judgement on this matter without viewing the proper information …. I’d also like to remind you that there are conflicts of interests involving this case because James Crosby is a non-executive director of the FSA. He is well aware of this case and has chosen not to investigate it inside HBOS.

The FSA responds by saying it does not police “business models”.

Feb 2005:   Phil Flynn, a former Sinn Fein vice-president, steps down as Bank of Scotland (Ireland) chairman after his home and offices are raided by the Irish Garda in connection with an investigation into a £26.5 million Northern Bank raid in Belfast (see Peer challenges HBOS over Irish operations).

Feb 2005:   HBOS finance director Mark Tucker (pictured right) tenders his resignation to HBOS CEO James Crosby, having been offered the CEO role at Prudential.

March 2, 2005:   HBOS reveals that profits soared by 22% to £4.6bn in the year ended December 2004. Crosby remains optimistic about the bank’s prospects, insisting its mortgage business will be “resilient”, even in a housing market slowdown. The bank says that non-performing loans accounted for 2.16% of its overall retail loans in 2004, up from 1.81% a year earlier, the bank said. This rise in bad debts, together with the prospect of further interest rate rises from the Bank of England and jitteriness about the UK housing market, spooks analysts.

March 16, 2005:  Bank of Scotland Ireland (BOSI) buys the retail branches of Ireland’s Electricity Supply Board for €120m, with a view to creating a branch network in Ireland. Mark Duffy, CEO of BOSI says: ‘This deal is an excellent one for both parties. We have achieved our objective to provide a branch network to sell our new retail products, and the ESB is exiting the retail business while guaranteeing employment for its retail staff.” But as Matt Cooper wrote in How Ireland Really Went Bust, the plan was  disastrous.

“By the time it closed its operations in 2010 it had just 50,000 customers with each of those key products [current accounts or credit cards], a little more than 1,000 per branch, a disastrously low number given the money spent on pulling them in … Meanwhile BoSI was increasing its risk in the Irish market by becoming as much an investor as a banker.”

April 27, 2005:   At a heated annual general meeting in Edinburgh, the bank’s board comes under fire for sacrificing customer service on the altar of “shareholder value”. One shareholder tells the board: “You keep talking about share value. Well I believe the order of priority should be customer, staff and then shareholder. If you don’t have customers you don’t have a bank.” (See: HBOS suffers AGM grilling)

June 2005:  HBOS starts offering savings accounts that pay annual interest of 10%, more than double the Bank of England’s benchmark rate, in a desperate bid to boost deposits. HBOS says it will pay the rate, the highest among British banks, to adults who make regular deposits into a savings account in the name of a child.

July 2005:  In a bid to prevent him defecting to Boots, where he has been offered the chief executive’s role, Hornby is promoted to the role of HBOS’s chief operating officer. News of Hornby’s £2.2m bung first emerged in March 2004 (see above).

Aug 2005:  The bank buys back £1bn of its own shares, as it reveals that pretax profits have risen 15% to £2.26bn in the first half of the year, up from £1.97bn the previous year. The impaired loan charge rose 25% to £753m. Mortgages in arrears are up by one-third and impairments have climbed to 1.84% of loans, compared with 1.43% at the end of 2004. Telling the Independent newspaper about a tightening of lending criteria in retail markets, Crosby says “As bankers, when we lend money it’s rather important for us to get it back.” The article also says “For good measure, a PricewaterhouseCoopers survey found that HBOS paid more tax to the Treasury than any other UK plc, bar BP. Giants like BT paid a third of HBOS” and “The only deal [Crosby] would be tempted by in the UK would be to merge with one of the big four, and the competition authorities would not allow that”.

Aug 2005: Vegetables feature in the bizarre case of cabbages and cauliflowers. The vegetables are left on tellers’ desks in West of Scotland branches of Bank of Scotland to punish employees who miss sales targets. The scenario reinforces the impression that selling has become the bank’s top priority. See Cabbage lands bank in soup. Crosby implies he has no intention of stepping down as CEO in an interview with Jason Nisse, published in the Independent on Sunday on Aug 7.

October 2005:  The bank suspends Claire Bright, a senior executive in its Treasury division, from her post two weeks after she made an internal complaint, alleging her boss Cliff Pattenden was a “mini Hitler”. She is fired by head of treasury Lindsay Mackay in January 2006, and later sues for unfair dismissal, sex discrimination and victimisation.

Dec 2005:  Perhaps dismayed at the bank’s recklessness, Bank of Scotland governor and HBOS head of corporate George Mitchell retires at the age of 55. Mitchell is replaced as head of corporate by Peter Cummings, who is given free rein to create a “bank within a bank” by HBOS’s board, who were impressed by some earlier deals he had done with retailer Sir Philip Green. Someone with knowledge of the situation later told the Financial Times:

“As long as George Mitchell held the reins, Peter was kept in his box. But as corporate banking helped drive profits, Peter was seen as a star.”

Jan 2006: Four months after the Nisse interview Crosby, 49, announces he is resigning as chief executive with “wunderkind” Hornby, 38, poised to take over. Hornby tells the Telegraph that international acquisitions are not on the agenda “as our growth prospects in the UK are good.” Despite his lack of experience and self-confessed ignorance of banking fundamentals, Hornby gets lionised in much of the British press (see Hornby signals he’ll keep HBOS on track).

March 1, 2006:  Pre-tax profits for 2005 soar by 17% to £4.8bn. The biggest contributor is a 27% rise in profits from corporate banking, presumably a consequence of the bank’s loose lending criteria and inadequate controls in this area. The bank has by now gained a reputation in the City for lending on ‘leveraged’ (i.e. non-investment grade) deals at crazy multiples of Ebitda. Basically, it’s become known as a soft touch. Yet Crosby insists the bank is taking a “cautious” approach to corporate lending — and in the interview with the Independent on Sunday’s Jason Nisse, the previous summer insisted:  “As bankers, when we lend money it’s rather important for us to get it back.”

Profits from retail grow by only 8%, partly as a consequence of sharply increased bad debts, which soar by 48% year-on-year to £991m. The bank says it has increased its share of current accounts to 11 per cent, up from less than 4 per cent when it started its campaign. However, evidence has since emerged that many retail staff were persuading people to open essentially ‘phoney’ new current accounts just to meet sales targets and that many of accounts remain dormant.  Halifax’s share of the UK mortgage market has fallen to 14%, down from its customary level of about 22%. The slowdown in mortgages is particularly sharp in the second half, when it achieved 10%. The full-year results figures also show a 50% rise in profits at HBOS’s international arm to £610m. HBOS also unveils branch expansion plan, saying that about 50 Halifax branches are to be opened over the next five years, with a further 50 relocated to better sites, at a total cost of £100m. It was eager to convince a sceptical City that there was still be growth to be had in UK retail banking.

The results are in line with investors’ expectations, but the bank becomes one of the FTSE 100’s biggest fallers on investor disappointment that it had not beaten forecasts following a 56% rise in its share price in 18 months.  The bank, which is undertaking a £750m share buyback, paid a final dividend of 24.35p, taking the full-year pay-out to 36.10p, up 10%.

May 2006:  Andy Hornby,  COO and head of retail banking, discreetly enters talks about a putative merger between HBOS and Lloyds TSB with the latter bank’s chairman Sir Victor Blank. The pair know each other as boardroom colleagues at the catalogue retailer GUS (which is demerged into Experian and Home Retail Group in October 2007). Had Hornby already recognised the game was up for HBOS?

May 10, 2006 Claire Bright, a senior executive in HBOS’s Treasury department launches a multi-million pound sex discrimination claim against the bank. Bright claimed she was unfairly dismissed, sexually discriminated against and victimised by HBOS, where she managed £140bn in assets. (see: Woman banker sues for £11m).

June 17, 2006:   Crosby is knighted in the Queen’s birthday honours “for services to the finance industry.”

June 29, 2006:   The FSA remains deeply concerned about the bank’s approach to risk management and writes to HBOS with a further interim ‘Arrow’ assessment. The regulator says there are “still control issues” at the bank and that it “will closely track progress in this area”. The regulator also says

“the growth strategy of the group posed risks to the whole group and that these risks must be managed and mitigated.”

July 2006:  Hornby takes over the reins as HBOS chief executive.Andy Hornby; image courtesy of The Sun

Aug 2006:  Half-year pre-tax profits jump 17% to £2.65bn. The bank tells the City that it plans to increase its share buyback programme for the year from £750m to £1bn. 60,000 staff are handed a £670m windfall.

Sept 2006:   The bank continues to show limited awareness of economic cycles. BoS Corporate and Tom Hunter’s West Coast Capital massively overpay for the retirement homes builder McCarthy & Stone, trumping rival bidders Permira and Barclays Capital with a £1.1bn bid.

Oct 3, 2006:   HBOS says it has attained its market share ambitions in mortgages but still detects room for growth in current accounts, savings and general insurance. Just two months into the CEO job, Hornby says:

“Given our customer base — no less than 22 million — and the natural strength of our distribution, we are being entirely realistic in aiming to push all of our core market shares into the 15%-20% range.”

He says the bank is on track to return surplus capital (!!) to shareholders via a £1bn share buyback and that HBOS is targeting a cost-income ratio “into the mid 30s” by 2010.

Farepak logo; image courtesy of Daily Mail Oct 2006:   The Farepak scandal, in which 150,000 savers from low-income families lose around £35m erupts. In some ways it is microcosm of what went wrong at the bank. HBOS had granted a £40 million overdraft facility to European Home Retail group, the parent of the fundamentally flawed Christmas hamper company. Yet as with other corporate customers, the bank allows the company to trade while technically insolvent, before finally putting it onto administration in on October 13th, 2006. The bank subsequently tries to profit from its demise (see We don’t need a court to tell us the Farepak scandal is reprehensible).

There are parallels with the bank’s abuse of other “impaired” assets around this time. Bizarrely since 2003, BoS Corporate has been allowing David Mills of ‘turnaround consultancy’ Quayside Corporate Services to take control of scores of its business customers, many of which were then pushed into administration and had their assets acquired at below market prices by the bank’s off-balance-sheet vehicle, The Sandstone Organisation, and by Mills and his associates though abuse of pre-packaged administrations. (see Examining HBOS and Banking’s Abu Ghraib).

Nov 2006:   UK politicians put forward parliamentary motions seeking to mount an inquiry into the bank’s role in the Farepak collapse. HBOS denies wrongdoing, but makes the PR gesture of contributing £2 million to a voluntary fund to help Farepak’s customers. Despite scores of complaints about the activities of Mills, Quayside and Scourfield, it persistently denies awareness of wrongdoing in the Reading scandal.

December 22, 2006:  Claire Bright drops her sex discrimination case against the bank (see: Banker drops £11m HBOS sex bias case).

Jan 2007:  A few bank analysts begin to wake up to the risks inherent in HBOS’s out-of-control culture, reckless business model and propensity to deceive investors. On January 5, 2007, bank analysts at UBS publish a sceptical research note. Writing in the Sunday Times Iain Dey and Karl West later wrote: “At the time, it was almost sacrilegious to question anything the bank did. It was clocking up record profits year after year, while keeping its cost base under control.” The UBS analysts wrote:

“We believe that HBOS has not experienced any losses on its investment books in recent years. Nor are there any signs of stress. But we ask whether this is exactly the point in the cycle at which deals are done that later prove to have embedded unrealistic assumptions and become problematic. The nature of HBOS’s strategy means it will be holding the risk if and when that occurs.”

Jan 19, 2007:   Analysts at Goldman Sachs also turn sceptical, adding the Edinburgh-based bank to their ‘conviction sell’ list, causing the bank’s shares to fall by 10 pence to £11.07 (see: HBOS down on Goldman sell recommendation).

Feb 2007:   A 19% hike in pre-tax profit to £5.7bn does little to allay City fears about HBOS. The bank is the biggest FTSE 100 faller at midday, as analysts complain about the lack of transparency from its board and the lack of future guidance. Stockbrokers Collins Stewart warn that the outlook for revenues for the full year of 2007 is “muted”. Yes the banks sees fit to hand a bonuses of £210m to 50,000 bank and mortgage sales staff. (See HBOS staff to share £210m windfall)

March 2007:   It emerges that confidential information on 13,000 Halifax customers was stolen from one of the former building society’s salespeople’s cars. A salesperson had left a briefcase containing paper files on the customers in their car, which was broken into (see Files on HBOS customers stolen).

March 2007:   BoS Corporate and private equity group West Coast Capital, owned by Ayrshire entrepreneur Sir Tom Hunter (pictured left), splash out £715m for housebuilder Crest Nicholson at the  peak of the property bubble. It was already well known in property circles that a major crash was imminent.

March 2007:   The corporate bank parts company with its director of mid-market high-risk  for England, Lynden Scourfield. He is understood to have cost the bank up to £1bn by extending loans to companies advised by David Mills’ self-styled ‘turnaround consultants’ Quayside Corporate Services. Scourfield is said to have been dismayed by the bank’s decision to ‘hive down’ his loan book and to ‘shut down’ the companies to which he had lent. The closures were orchestrated by BoS Corporate’s Tom Angus, Andrew Scott and Fraser Kelly. After a period of “sick leave” Scourfield resigns.

March 2007:   According to a Coroner’s report, the bank’s director of structured finance, Colin Swanson, commits suicide by hanging himself in a bathroom in the Millennium Hotel, Grosvenor Square. Former insiders say Swanson was “under massive stress because of unrealistic targets he had been given” and because “he had questioned the bank’s business model”.

March-April 2007:  Writing in an HBOS corporate publication, HBOS’s head of corporate lending Peter Cummings writes: “The job of banks is to assess risk but in the last 18-24 months that’s a job many banks seem to have forgotten and have taken huge hits on their balance sheet as a result. We never forgot. Our decisive strength is assessing credit risk and assessing people. We’re better at it.” (via the Financial Times)

April 16, 2007:   At a presentation to analysts/investors, Cummings reveals the extent of his self-delusion:

“I continue to see sound economic fundamentals long term in the property lending sector and our largest partners as best-in-class property players. Real Estate continues to be, for us, one of the very best asset classes available.” [Ian’s note – the economics are by this stage totally unsound and Bank of Scotland’s partners are for the most part a long way from being best-in-class; many are property wannabees and chancers who cannot quite believe what a soft touch Cummings is]

“The diversity in our asset-class portfolio and the variety in our product range provide us with a portfolio of strategies for organic growth through-the-cycle.”

“Our asset class model is capable of either holding assets on balance sheet, or distributing them using methods such as secondary trading, securitisation, conduits, warehousing or syndication.”

May 2007:   HBOS shares climb to an apogee of 1153p. But the first rumblings of the credit crisis and market suspicions that something is seriously awry at HBOS cause the bank’s share price to enter a period of decline. The bank takes a 50% stake in over-stretched property developer Kilmartin Holdings, even though its assets are known to be of poor quality and  the commercial property bubble is known to have burst. Ian Robertson, managing director of corporate banking at BoS, “retires” after 36 years with the bank. Internally, nobody wants to take on responsibility for the opaque and perilous structure known as “Robbo’s Bank”.

July 31, 2007:   The credit crisis formally starts. Two Bear Stearns hedge funds — Bear Stearns High-Grade Structured Credit Strategies Master Fund and Bear Stearns High-Grade Structured Credit Strategies Enhanced Leverage Master Fund — both of which were massively exposed to subprime loans seek bankruptcy protection in the Cayman Islands grand court.

July 31, 2007:  At the first half results, Hornby blames a crash in the bank’s share of new residential mortgage lending (which has slumped to just 8% of the UK market) on a “largely unsuccessful” pricing strategy, which is in turn blamed on head of retail Benny Higgins. Hornby adds:

“Having taken corrective action to our pricing strategy, the strength of the HBOS franchise has been demonstrated by the speed with which we have returned to our 15 to 20 per cent net lending range in May and June.”

But for the bank to once again become aggressive in the UK residential mortgage market this late in the cycle was absolute lunacy for the bank.

Aug 2, 2007: Jochen Sanio, director of German banking supervisory body, Bafin, warns of a systemic financial crisis. “This could lead to the worst crisis since 1931,” he said.

August 9, 2007: The global financial sector recognizes it is living on borrowed time after two BNP Paribas freezes three funds exposed to the stumbling US subprime mortgage market. The French bank blames

“complete evaporation of liquidity in certain market segments of the US securitisation market…”

for its decision to stop redemptions from the three funds, and further investments.

August 21, 2007: In a further tipping point for the markets, Paul McCulley an official at the world’s largest bond investors Pimco, gives a speech to economists at Jackson Hole Wyoming. He warns of the beginnings of a run on the world of  “shadow banks” which he defines as “the whole alphabet soup of levered-up non-bank investment conduits, vehicles and structures”. HBOS has scores of these.

Aug 10, 2007:   Higgins (pictured right), architect of the bank’s more cautious approach to the UK mortgage market, has a ‘personality clash’ with Andy Hornby and quits. He had slashed the commission HBOS paid to intermediaries including IFAs for selling HBOS products, which  had had the desired effect of causing sales to slow. But this had not gone down with the delusional Hornby. To some extent, HBOS, it is now a hostage to fortune: its earnings expectations are inextricably linked to its share of the UK housing market. Commentators suggest that Higgins — who reportedly received a £2.5 million payoff over and above his entitlement, and has since re-surfaced as chief executive Tesco Bank — timed his exit rather well (see my Sunday Times Scottish Agenda column: HBOS pays price for short-term thinking).

Aug 22, 2007:  Lindsay Mackay, chief executive of HBOS Treasury Services, admits that Grampian Funding, an off-balance-sheet “conduit” of the bank’s, cannot find investors willing to lend to it for more than one day. Grampian Funding has $36.1bn of debt outstanding and invests mainly in ‘triple-A’ rated securities, with a focus on toxic waste including MBSs and CDOs. The conduit was not mentioned in HBOS’s 2006 annual report and accounts. HBOS shores up the shadowy and perilously exposed vehicle, paying off outstanding commercial paper from its own balance sheet. Mackay insists this will have “no material adverse impact” on HBOS’s fortunes but Standard & Poor’s disagrees saying it will add nearly £14bn of risk-weighted assets. Five-year credit default swaps on HBOS rise 4.5 basis points to 48.5 basis points after the news emerges (see Faith in Grampian hastens fall of Bent). Also in August the bank resists the urge to make a £1.2bn plus takeover of property developer Quintain Estates.

Sept-Oct 2007:  The collapse of Northern Rock, the start of the UK housing market downturn, the intensification of the credit crunch and mounting fears over the sustainability of the bank’s model cause falls in the HBOS share price to accelerate. It is increasingly apparent that reckless lending to housebuilders and property developers (as well as the purchase of equity stakes in such players at ridiculously over-generous prices, and the conflicts of interest inherent in a “pig on pork” model) coupled with poor collateralization and virtually non-existent risk-management, coupled with the bank’s dominant share the UK mortgage market and, of course, its dependence on wholesale funding and a flawed approach to treasury, have left HBOS perilously exposed.

Oct 24, 2007:   In a surprisingly frank interview with Melanie Reid of The Times, HBOS chairman Lord Stevenson admits he has for the past 12 years suffered bouts of clinical depression. Speaking ahead of a mental health conference in Glasgow. Stevenson said:

“It is a nasty truth in life that a nasty bastard with no humanity can be successful in business, but not for any length of time. Type A males who are competitive and insensitive to other people’s feelings have to change if they are going to build something that’s sustainable and will continue long after they are gone.”

It remains unclear if this is a reference to Peter Cummings or other senior executives at HBOS.

Nov 2007:   Crosby appointed deputy chairman of the FSA. Sir Clive Thompson, former chairman of EHR, parent of Farepak, said that HBOS had

“hung [Farepak’s management] out to dry … I have sat on the board of six FTSE 100 companies, but never have I seen behaviour such as this. If this is typical of the way HBOS treats small companies I am disgusted.”

Dec 1, 2007:   Halifax chief economist Martin Ellis rubbishes talk from the IMF and HSBC that UK house prices are 30% to 40% overvalued. In a press release he says:-

“A robust UK economy and the accompanying sound health of the labour market continue to provide strong underpinnings for the housing market … there is a fundamental supply and demand imbalance in the UK that simply does not exist in the US.”

HBOS calculates that the UK government’s target of building three million new homes by 2020 is more than 500,000 short of what will be required based on official household projections.

Dec 11, 2007: Crosby becomes deputy chairman of the FSA and chairman of its committee of non-executive directors. He  replaces “Queen of the Quangos” Dame Deirdre Hutton, who steps down from the regulator’s board.

Dec 19, 2007:  Goldman Sachs downgrades HBOS, on concerns about its high funding costs and rising impairments (see: Goldman Sachs downgrades HBOS).

Jan 1, 2008:   The FSA, led since July 2007 by Hector Sants (pictured right) approves the bank’s Advanced Measurement Approach (‘AMA’) operational risk and Advanced Internal Ratings Based (‘AIRB’) credit risk waivers. Indicating the FSA has absolute trust in the bank’s management, the waivers pemit the bank to do its own risk-modelling and “stress testing”, without the need for any FSA inspection or oversight. The decision is later described as “an extraordinary lapse of judgement by the regulator“.

At December 31, 2007 HBOS supposedly as a capital ratio of 7.7%, based on Basel I guidelines and from January 1 2008 it starts operating under the Basel II capital ratio regime. The advanced capital regime will supposedly “redefine” both the size and nature of the capital resources available to HBOS, in addition to the level of risk-weighted assets (See: Commentary by Suresh Sankaran)

Feb 27, 2008:   HBOS’s profits are flat at £5.71bn. Hornby seems unsure about the future saying: “The current turmoil in global financial markets introduces considerable uncertainty into the plans of all financial institutions. We are planning on the assumptions that market conditions will remain uncertain throughout 2008.” Hornby admits that margins from UK mortgages are being squeezed and corporate lending is likely to slow. The bank claims that “maximum disclosure” about state of its treasury book is the best policy, making oblique references to the comparative lack of transparency at RBS. But the move backfires. Analysts latch onto the fact HBOS owns £7.1bn of “Alt A” assets, the US equivalent of self-certified mortgages. After analysts mark down their profit forecasts the bank’s shares collapse, ending the week at 603.50p. And still the group’s 65,000 UK staff share a £280m bonus. Investors are further infuriated when HBOS drops the targets under which directors receive payouts on its executive incentive schemes. Given that HBOS and other UK banks are pleading for subsidized liquidity, the Bank of England governor Mervyn King is furious at HBOS’s decision to hike its dividend by 18% to 48.9p. (see Banks warned to curb payouts and Slump in HBOS profits unnerves the stock market).

Feb 2008:   Peter Cummings, HBOS’s head of corporate banking, defends the bank’s decision to continue lending to the UK’s bombed out commercial property sector at an awards ceremony. In remarks that will come back to haunt him, Cummings says:

“Some people look as though they are losing their nerve — beginning to panic, even — in today’s testing property environment. Not us.”

March 19, 2008:  Shortly after midnight a London trader takes a call from a colleague in his bank’s Sydney office. He says there are rumours flying around the Aussie market that HBOS was in trouble. The London trader, who was on a night out in a West End club, replied briefly. Although people thought HBOS had more risk exposure than its competitors, he believed it to be well-capitalised and healthy. After joking  the world had gone mad, the pair rang off [source: Sunday Telegraph]. A few hours later the same rumour was doing the rounds on trading floors in Singapore, but was gaining credence. When City traders arrived for work at 6am, chatter about a liquidity crisis at HBOS was followed by three rapidly circulating e-mails. The first said: “We’re hearing that tomorrow’s Financial Times will write a piece about HBOS. It won’t be pretty, likely to focus on £128bn of non-customer liabilities that must be rolled in the next three months. This will raise the spectre of a run on the bank.” The others claimed that Bank of England Mervyn King had cancelled a trip to Asia because a UK bank was in trouble and that the BoE had cancelled Easter leave for all staff. By the time markets opened, City traders were hyped up and ready to dump the stock . By 8.52am frenzied, high-volume trading had wiped £3bn – or 17% – off the value of HBOS stock. By 9am, HBOS had two denials running on newswires. Hornby vehemently denies rumours that HBOS is struggling to fund itself and that it needs emergency funding from the Bank of England — even though the rumours were almost certainly true — and pins the blame on short-sellers spreading false rumours. The bank demands, and gets, an FSA inquiry. In a statement the FSA that “HBOS is a strong financial institution”. But if this was true, why did the bank raised £750m at 9.5% earlier in March. Credit default swaps on HBOS’s debt soar to 237 basis points. (see Worst CDS ratings).

March 24, 2008:  HBOS shares rebound after directors express their faith in its future by snapping up an additional 1.4 million HBOS shares. Mark Kleinman writing in the Telegraph said: “HBOS led a rally in the banking sector this morning after its shares soared as much as 17%, helped by the news that its chief executive Andy Hornby had spent hundreds of thousands of pounds on shares in the high street lender in the days surrounding last week’s share price plunge.” Hornby topped up his shareholding by buying an additional 92,812 shares. Colin Matthew, Bank of Scotland treasurer and HBOS chief executive of strategy and international, bought 58,543 shares and head of insurance and investment Jo Dawson picked up 57,115 shares. HBOS’s finance director Mike Ellis bought more than 10,000 shares, alongside executive directors Peter Cummings, Philip Gore-Randall, Dan Watkins who bought in excess of 25,000, 9,000 and 11,000 shares respectively. “The purchases were a way of demonstrating confidence in the bank,” said a source. (See: HBOS directors profit).

April 2008:  Despite being the architect of HBOS’s collapse, Sir James Crosby is appointed by his close friend the prime minister Gordon Brown, to chair a working group examining how to boost confidence in the UK’s rapidly shrinking mortgage market. The bank again ignores investor and internal concerns about its exposure to the UK’s crumbling property market by buying a significant equity stake in Edinburgh-based housebuilder Miller Group, to which it is already a significant lender. Peter Cummings allegedly over-rules advice from executives in Uberior Investments / BOSIF who, given the market turmoil,  strongly advised against buying the stake at the pre-crisis valuation. But determined not to let down Noble Grossart chairman Sir Angus Grossart, who is acting for Miller Group, Cummings ploughs ahead. One former insider said this was:

“the final straw for [BoS Corporate head of credit risk] Hugh McMillan. It was pushed through credit and I wouldn’t be surprised if that sparked Hugh’s departure.”

McMillan left Bank of Scotland Corporate on April 30th, 2008.

April 2, 2008:  Group finance director Mike Ellis (pictured left) confirms that the FSA has granted HBOS Advanced Internal Ratings Based status, which gives the bank free rein to do its own risk-modelling and to use this as the basis for calculating its own capital requirements. Ellis tells investors at a Morgan Stanley conference in London that, while the economic situation was worsening, the bank is “conservative” with its risk. Ellis says: “Under Basel II, we have achieved advanced status for operational and credit risk and have adopted a conservative approach to the development of our credit-risk models.” Ellis says HBOS is aiming for Tier 1 capital of between 7.5% to 8.5% “adopting the same mid-point for Tier 1 of 8% under Basel 1″. He adds: “Maintaining strong capital ratios is a given at HBOS and we will not compromise in this regard … One of the key tenets of liquidity management is not to take unacceptable credit risks, accepting that you cannot eliminate entirely credit risk, and we are very confident regarding the credit quality of our portfolio.” Ellis also said that HBOS’s asset-backed securities have been given “an overwhelmingly AAA external rating”. Ellis’s remarks are either an attempt to deceive investors, or suggest he has no idea what the bank has been up to over the previous six and half years.

April 10, 2008:  In one of the worst timed deals in history, HBOS buys a 40% stake in Tulloch Homes Group for £27.5m, an investment which it says “fits perfectly with our ambition to invest in the North of Scotland housing market.” On the same day the bank starts borrowing stealth emergency funding from the Federal Reserve, borrowing an initial $5 billion on April 10, 2008

April 22, 2008:  After Sir Fred Goodwin, chief executive of RBS, unveils plans for a £12bn rights issue to shore up his own bank’s shot-to-pieces capital base, there is an expectation that HBOS will follow suit. HBOS spin doctor Shane O’Riordain suggests a rights issue might be on the cards, but denies that any asset sales are planned or required. (see The bankers’ new clothes)

April 29, 2008:   At a crowded AGM in Glasgow’s SECC, which isn’t attended by Hornby, the bank unveils plans for a deeply-discounted £4bn rights issue, a dividend cut and fresh write-downs on its sub-prime assets. (voting results here). The bank is understood to have been forced into raising capital by Hector Sants, chief executive of the FSA. Hornby, whose image is beamed up from London, asserts that the rights issue will bring about a “step change in our capital strength” enabling HBOS to “consolidate leadership in residential mortgages and savings”. But investors and analysts are unconvinced by the rhetoric. The bank also reveals it is more heavily exposed to US toxic debt than it previously divulged, admitting to ownership of a £7.1bn tranche of Alt-A mortgages on its books (a.k.a. “liar loans”) (See my article Not simply a preparation for tough times ahead)

FT banking editor Peter Thal Larsen wrote:

Two months ago, HBOS looked as if it had avoided the worst of the credit squeeze. Unveiling its pre-tax profits for 2007, the bank announced it had written down the value of mortgage-backed securities on its balance sheet by just £736m. However, HBOS has revealed the true impact of the turmoil as it set aside a further £2.8bn – four times the original estimate – to reflect the reduced value of assets held in its treasury portfolio. Andy Hornby, HBOS chief executive, insisted the bank had not made losses, preferring to describe the reduced values as “negative fair-value adjustments” that would be reversed as markets recovered. “I would expect it all to come back over time,” he said…

HBOS revealed that, at the end of March, it held mortgage-backed securities worth £20.7bn. Almost half of these are backed by US mortgages, the vast majority of which are Alt-A mortgages… The bank has written down the value of its Alt-A portfolio to 80 per cent of its face value, reflecting the reduced market value for these securities…  Hornby defended the bank’s decision to buy mortgage-backed securities, arguing that the market was one of the largest and most liquid pools of assets in the world.

He also refused to apportion individual blame for the writedowns, arguing that no bank had foreseen the drying up of liquidity in the markets. “If we had had a major credit impairment that would have been a failure of risk management,” he said. “The responsibility is shared between the management and the risk managers of the bank.”

June 26, 2008:  At a general meeting in Edinburgh’s EICC, HBOS seeks to persuade shareholders that it is in their interests to participate in the £4bn rights issue, underwritten by Morgan Stanley and Dresdner Kleinwort. In a circular published on 3 June Lord Stevenson reassured investors that he was “optimistic about the fundamental prospects of the company’s core business”, and that the bank was “well placed to deliver long-term sustainable growth”. In a trading statement unveiled at the general meeting, HBOS added that performance was “satisfactory” and that “we look forward to a stronger second half … For the year as a whole, we expect a resilient performance.” Stevenson is adamant the rights issue  will be sufficient to see the bank through, telling investors:

“The rights issue will put us in a competitive position … Armageddon may happen, and we should be prepared for it, and we are.”

Andy Hornby says that the cash call is

“about making sure we’ve got real capital strength for whatever macroeconomic environment comes our way ….  [ensuring HBOS is in a] really strong versus all peer groups on a UK and European scale and therefore in a position to take appropriate market share”.

A string of complaints are later made to the Treasury and the FSA about the misleading nature of these and other statements made by the bank as it touted the issue to investors. [Note: On November 4th, 2009 Lloyds confirmed that the FSA is formally investigating whether investors were conned (See HBOS misled investors, The unanswered questions around the HBOS cash call and Probing HBOS).

July 2008:  Following further sharp falls in the HBOS share price, the rights issue is shunned by 92% of the bank’s shareholders, and underwriters Morgan Stanley and Dresdner Kleinwort end up with a £3.8bn “stick” of unwanted HBOS stock. In a clear case of conflict of interest, Morgan Stanley later discloses it has also shorted 2.3% of HBOS’s stock.

July 31, 2008:  The unsustainability of HBOS’s model becomes even clearer after it reveals first-half profits have plunged 72% to £848m. The bank blames this collapse in profitability on ‘a rise in bad debts’ and ‘further write-downs’ on its portfolio of cavalier loans and toxic assets. The bank slashes its dividend, telling investors they will be paid in shares not cash. Hornby confirms that the bank is considering selling off non-core assets including insurer Clerical Medical, fund manager Insight Investment and Australian bank BankWest.

Aug 2008:  HBOS says it is axing 400 jobs, as part of a shake-up that includes the closure of its specialist lending arm The Mortgage Business, the closure of a mortgage processing facility in Cardiff, and the scaling back of online brand Intelligent Finance. It also announces it will close 53 of its 204 estate agency branches by the year end. Some 40,000 job cuts will later follow.

Aug 15, 2008:   HBOS chief executive Andy Hornby has a “quiet drink” with Lloyds TSB chief executive Eric Daniels with a view to selling him the Edinburgh-based bank. Lloyds chairman Sir Victor Blank later tells the Guardian’s Jill Treanor:

“They came to the conclusion that there was a lot to be said for a deal and that maybe we should push it along,” (see  City grandee who could soon be heading a bank of Britain).

Sept 11, 2008:   The Bank of England governor Mervyn King weakens the bank’s position when he says the Special Liquidity Scheme (SLS) will cease. King says mortgage lenders should not treat central banks as a “magical piggy bank” and that guaranteeing the mortgage market, as happens in the US via Fannie Mae and Freddie Mac, would have profound economic and fiscal consequences for decades. Willem Buiter, chairman of European political economy at the London School of Economics, later says King signed HBOS’s death warrant with these remarks.

Sept 15, 2008:  Markets open on Monday morning following the bankruptcy of New York-based investment bank Lehman Brothers, wholesale funding markets are wholly paralysed and HBOS’s share price immediately collapse by 18% as investors recognize that HBOS is a dead man walking.

Lehman Brothers headquarters; image courtesy of USA TodaySept 16, 2008: With a £198bn gap between its lending and its deposits and the wholesale markets frozen, HBOS is effectively bust. S&P downgrades the counterparty ratings on the holding company to A+ from AA-. Credit default swaps on HBOS’s senior debt soar to 512.5 basis points (while CDS on its subordinated debt climb to 750 basis points) as depositors commence a £30bn plus “run” on HBOS. Its online service HOBS goes down. The FSA issues a statement saying: “We can confirm that, as HBOS already stated, HBOS has a strong capital base and continues to fund satisfactorily.” The bank’s spin-doctor, Shane O’Riordain, says:

“HBOS notes the current volatility in bank share prices following developments in the US. HBOS has a strong capital base and continues to fund very satisfactorily.”

And yes, pigs have been know to fly. Investors are unconvinced by the spin. The bank’s share price tumbles a further 22%. Hornby and Eric Daniels, CEO of Lloyds, plus Morgan Stanley’s Simon Robey  (adviser to HBOS) and Merrill Lynch’s Matthew Greenburgh (adviser to Lloyds), enter secret, emergency talks about a rescue takeover of HBOS in Halifax’s notorious Mayfair flat. According to the Telegraph, a desperate, stressed out Hornby is pinning his hopes on a takeover by Lloyds (see Disastrous deal)

Sept 17, 2008: At 3am, after hours of intensive talks, Hornby/Robey and Daniels/Greenburgh reach a deal of sorts. Lloyds will pay an “indicative” price of 285p per HBOS share. In a clear breach of FSA rules, the news is leaked to the BBC’s business editor Robert Peston, who publishes it on his blog at 9am. Apparently the leak was driven by very real fears that HBOS had insufficient liquidity to meet counter-party demands and was at risk of collapsing withi hours. The news, confirmed by both banks later that day, briefly reverses the collapse in HBOS’s share price. However Daniels is furious about the price mentioned by Peston (‘nearly 300p a share’) . The 285p was always meant to be have been only an indicative price. The American threatens to pull out of the deal.  Hornby is again reduced to a state of “high anxiety” and Daniels/Greenburgh successfully get the price knocked down to 235p later that day. Law firm Linklaters works through the night on the deal. Stock market observers are very surprised by the leak and the two banks’ failures to suspend their shares (see Sir George on Robert Peston).

Sept 18, 2008: Lloyds TSB and HBOS formally announce the £12.2bn rescue takeover of the latter, and confirm that prime minister Gordon Brown has eased the path to the deal by agreeing to waive UK competition law. It later emerges that conversations between Brown and Lloyds chairman Sir Victor Blank (pictured left) about a tie-up had taken place at a Citigroup dinner held in Spencer House in St James, London the previous Monday and in mid-August on a flight back from Tel Aviv (see City grandee who could soon be heading a bank of Britain &  Merger Press Conference Video). On this day HBOS is dependent on $14.5bn of secret emergency fuding from the US Federal Reserve.

Sept 19, 2008:  In a desperate bid to prevent the shares of UK banks from flooring, the FSA imposes a short-selling ban. However a backlash soon erupts against the Lloyds deal, with many shareholders and analysts decidedly unenthusiastic. A group of patriotic Scots hatch a plan to extricate the old Bank of Scotland from the Lloyds / Halifax combine if a deal ever completes (see HBOS: The crash landing … and Scores of people).

Sept 29, 2008:   HBOS spin doctor Shane O’Riordain, despite (or perhaps because of?) the unreliability of many of his statements, is named as the best-regarded communications professional at a British bank. One financial journalist told CorpComms magazine:

“‘Shane is the best PR guy in Britain. HBOS are brilliant at communications but there are some fundamental problems at that company that not even brilliant communications can overcome.”

Sept 30, 2008:  As HBOS shares close at 122p, well below the price offered by Lloyds, analysts conclude the deal is off.

Oct 1, 2008:  Margo Macdonald MSP asks Lothian and Borders Police to investigate the bank after reading the Lloyds TSB and HBOS chairmen’s “joyous comments” following a takeover which she pointed out were “unimpeded by the usual rules governing such big business deals”. She said Gordon Brown and Alistair Darling were wrong to waive the normal referral to the Competition Commission, and that the FSA had been “curiously quiet”.

Oct 1, 2008:  Brown reiterates his support for the deal, which reassures some that the “merger” might happen. Backing from Standard Life Investments and other institutional investors — apparently orchestrated by Gordon Brown and chancellor Alistair Darling — pushes HBOS shares up 21% to 148p, while Lloyds TSB ends 10% higher at 280p. Over and above the secret, undeclared emergency funding from the Federal Reserve, the Bank of England also provides HBOS with a clandestine £25.4 billion emergency loan, and this remains a closely guarded secret until November 2009.  Had Lloyds shareholders been aware that the bank they were buying was effectively bust and has only been kept afloat by these clandestine emergency loans, they would never have agreed to take HBOS off the government’s hands (see: HBOS and RBS received secret loans).

For more on the extraordinary chicanery, shenanigans, malfeasance and fraud at HBOS, Halifax, Bank of Scotland and Lloyds Banking Group click here. If you have any suggestions for episodes that are missing from this catalogue of abuse, please email me at ian@ianfraser.org or call on 07803 970393 

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7 Comments for “The Worst Bank in the World? HBOS’s Calamitous Seven Year Life”

  1. […] figures like Sir James Crosby and Lord Stevenson in the demise of disastrous Edinburgh-based bank HBOS, the Financial Services Authority is seeking to heap all the ordure on the less establishment Peter […]

  2. […] Appallingly run bank that only lasted seven years. A one way all-encompassing bet on UK property bubble. Massive bonuses paid for a high street bank. Boss knighted, appointed to the regulator, and then asked to review mortgage market by Gordon Brown. […]

  3. […] maximum short term profits and thus maximum financial rewards for themselves and other executives. Over the next seven years they steer the bank into ever riskier lending practices which expand HBOS’s market share […]

  4. I am a solicitor representing a client charged, effectively, with a number of mortgage frauds in 2008.

    I need some assistance in evidencing the lending culture at this time which I am instructed was, to say the least, somewhat cavalier, as demonstrated by your piece.

    Could you offer any advice as to how I might achieve this? Many thanks in anticipation

  5. […] Royal Bank of Scotland (the largest bank in the world by assets at the time), and HBOS (which was rotten to the core by the time of its September 2008 collapse), if it had been independent, Jenkins said [it starts […]

  6. […] The Worst Bank in the World? HBOS’s Calamitous Seven … – The Worst Bank in the World? HBOS’s Calamitous Seven Year Life. February 27th, 2010 (updated June 22nd, 2012) HBOS’s entrance on The Mound; Image: The We […]

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