Banks 'plundering society' globally

ROB STOCK
Last updated 05:00 04/11/2012

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Claims banks missold interest-rate swaps to businesses and local authorities have been making headlines around the world.

Interest rate swaps are a derivative financial tool used by sophisticated businesses with skilled treasury functions to limit interest rate risk.

But it is becoming clear that in places such as Britain, Italy and America, interest-rate swaps were sold by banks to organisations that did not understand the risks they were taking.

In case after case, interest rate swaps often sold in 2007 and 2008 as "protection" against interest rates rising sharply have served mainly to protect bank profits by locking businesses and local bodies into high levels of interest ahead of those rates falling.

In July, an investigation by the Financial Services Authority in Britain concluded that it had found "serious failings" by banks, including Barclays, HSBC, Lloyds and Royal Bank of Scotland in the way they sold interest-rate hedging products to small- and medium-sized businesses leading to a "severe impact" on their finances.

Banks agreed to a mechanism overseen by the authority to identify those sold swaps and provide compensation. Initially it thought compensation could be due in about 28,000 cases but that was revised up to as many as 40,000 businesses in late September.

In March, Germany's biggest bank, Deutsche Bank AG, lost a case over interest-rate swaps it sold to a paper company. It was ordered to pay damages, reported the Business Standard. The Federal Court of Justice found the bank didn't adequately disclose the risks of the products.

Presiding Judge Ulrich Wiechers said: "As an adviser to its customers, the bank must guard the customers' interest alone. But as a seller of the swap, a loss to the customer works to the bank's advantage." There are claims from across Germany that local authorities and companies were missold interest rate swaps.

London-based banks have been accused of misselling interest rate swaps to city authorities in Italy. The BBC reported in September that Nomura, UBS and Deutsche Bank were among those accused by Italian prosecutors of misselling derivatives in deals worth € 35 billion (NZ$54.7b). Some swaps have been reversed by banks. Milan, for example, got a € 500 million payout as a result.

Milan's chief prosecutor Alfredo Robledo told Britain's Newsnight that banks had been "plundering society".

United States cities such as Philadelphia and Oakland are investigating how they came to lock themselves into interest rate swaps that have cost them a fortune. Anger is growing but, as yet, there have been no lawsuits. The Financial Times reported in August that: "Various public groups estimate the deals, some of which were agreed decades ago, are now costing taxpayers billions of dollars a year."

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Bloomberg reported that Holland had placed greater restrictions on banks' derivative sales after affordable-housing provider Stichting Vestia Groep lost € 1.3b as a result of soured interest-rate swaps. The case prompted hedge specialist Vedanta Hedging to comment: "As we frequently try to inform others about this issue, the potential problem of interest-rate swap misselling is not just confined to small- or medium-sized businesses."

- Sunday Star Times

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