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Categorized | Banks

Banks set aside £700m for swaps scandal

Posted on January 31, 2013

Barclays, HSBC, Royal Bank of Scotland and Lloyds have set aside about £700m for compensation for mis-selling complex derivative products to small businesses but analysts suggest the final cost to the industry of the latest mis-selling scandal could be up to £2bn.

The Financial Services Authority on Thursday ordered the four banks to review all their sales of interest rate hedging products, including swaps and more complicated products, to small businesses that it concluded were “unlikely to understand the risks associated with those products”.

    They had already agreed to compensate mis-selling victims after an earlier probe found “serious failings” in the way customers were sold products meant to protect them from swings in loan-repayment costs. The latest FSA study will determine how many cases the banks will have to look at.

    Interest rate derivatives are supposed to protect businesses against rising interest rates. But in a pilot study of 173 interest rate products, the FSA found that nine out of 10 products sold to small and medium-sized businesses by the four banks failed to meet regulatory requirements and that a “significant” portion of customers should receive compensation.

    Britain’s biggest lenders have already set aside around £12bn in compensation for customers who were mis-sold payment protection insurance. In addition, Barclays and UBS have paid nearly £1.3bn in penalties related to the Libor scandal, while RBS is expected to settle shortly with US and UK authorities.

    The FSA said banks had sold about 40,000 derivatives to “non-sophisticated” customers since 2001.

    The Federation of Small Businesses said on Thursday that the banks need to take “swift and decisive action” to compensate businesses caught up in the scandal.

    Vince Cable, business secretary, said: ““This is an example of the little guy paying for the big banks’ wrongdoing. The immediate priority is to ensure small businesses are not driven out of business by banks pursuing liabilities for swaps that they mis-sold.”

    The FSA reviewed 173 sales to unsophisticated customers in detail and found that more than 90 per cent did not meet regulatory requirements. But the watchdog said the earlier investigation had focused on more complex cases and might not be representative of all sales.

    The contracts were designed to protect companies from interest rate rises by fixing rates on their loans. However, when the base interest rate dropped to historic lows, some businesses were hit with fees and others complained they faced huge penalties for cancelling the hedges or refinancing their loans to take advantage of lower rates.

    Some SMEs also said they were told that buying the swaps was a condition of taking out a loan, while others complained of high-pressure sales tactics and large fees to exit the swaps.

    The scale of the new review is a setback for the banks, which had hoped a victory for RBS in the first interest rate swap case to come to trial would translate into a narrower requirement. But the FSA on Thursday said that ruling, which found that RBS had properly advised customers on the risks involved, was too specific to have broad application.

    Sandy Chen, an analyst at Cenkos, wrote in a note to clients that “the eventual quantum of redress will be relatively small compared to the PPI and Libor-related charges”.

    The FSA is still reviewing sales by Allied Irish Bank (UK), Bank of Ireland, Clydesdale and Yorkshire banks, Co-operative Bank, and Santander UK. It aims to announce the scale of customer reviews at those banks by mid-February.