For a number of years (since the 1990s) retail banks have sold interest rate hedging products such as swaps, caps, floors, collars, extendible swaps and cancellable swaps to small and medium sized enterprises in the UK. These products were typically sold as hedges associated with loans with a variable rate of interest (linked to base rates or LIBOR) as protection against an increase in interest rates. The products have become so prevalent that they have been sold to borrowers taking out the smallest of loans and even hire purchase agreements. Often under-taking the hedge was a pre-condition of the loan. Financial Services Authority (now Financial Conduct Authority) investigated the matter after being alerted to the issue by The Telegraph newspaper in March 2012.
The Financial Conduct Authority (FCA) reviewed the sale of interest rate hedging products such as swaps, caps, floors, collars and other more structured swaps by banks to companies. Their findings were stark: “Our review has found serious failings in the sale of interest rate hedging products to small and medium sized businesses (SMEs).” The FCA found that the sale of these products was “inappropriate” in many cases with “poor sales practices” and that the “sales rewards and incentive schemes could have exacerbated the risk of poor sales practices”. As a consequence, the FCA have agreed with a number of banks that they should review these transactions and provide appropriate redress where mis-selling has occurred. The FCA’s review applies to SMEs and non-sophisticated customers. However, the principle of mis-selling applies to all customers irrespective of their size.
Examples of mis-sold IRHPs comprise of any of the following:-
Mismatch between the length of the interest rate swap product and the length of the loan.
Banks compelling customers to retain their interest rate hedges in order to maintain their current banking terms.
Any case in which the bank failed to comply with the FCA’s Conduct of Business Sourcebook (COBS).
Failure on the part of the bank to ensure that the product in question met the needs of the customer.
Breaches of the bank’s ‘duty of care’ to customers – this is the duty of the bank to take reasonable care in giving out financial advice upon which you, as a customer, might rely.
Mis-matches between the value of the loan and the value of the interest rate swap (notional).
Failure on the part of the bank to explain the existence and size of any exit costs associated with the product.
Neglectful or untrue representations about the real nature of the product and its implications.
Failure by the bank to suitably evaluate customer’s attitude to risk.
Whilst the banks have agreed to act swiftly, this is not generally the case. We have found that a complete letter detailing the claim is the best way to get the bank’s attention leading to the resolution of the matter sooner rather than later. We fully understand the sensitivities in claiming redress from a bank with which you have an outstanding loan and overdraft facilities, particularly in today’s climate of scarce capital.
AHV aims not just simply to value these products, but to analyse the entire transaction, for example:
Was the product sold appropriate for the risks faced by the company?
Were the marketing materials, including emails, accurate in their description of the company’s risks and the proposed product?
Did the bank provide a balanced view of the likely outcomes, i.e. did they discuss what may happen should interest rates decline as well as increase and did they give a quantitative measure of the possible unwind costs?
Did the bank follow the rules set down by the FCA when selling these products?
Did the bank state the cost of the product whether explicit or implicit in the pricing of the swap? (AHV would calculate the effective fee.)
Do the contractual terms of the swap reflect the agreed terms?
Is the company sophisticated?
Importantly, the banks are attempting to reduce their liability by suggesting that an alternative product would have been bought by the claimant had the mis sold product not been sold. AHV will analyse the veracity of the arguments put forward.