Redress offered for mis-selling interest rate hedging products is hardly draconian
The Financial Services Authority’s review of interest rate hedging products has resulted in an agreement by the four major banks to offer redress to ‘non-sophisticated customers’ (defined by reference to their turnover, balance sheet and number of employees at point of sale) who were sold structured collar products, and to review the sales of other interest rate hedging products (other than caps or structured collars) for any mis-selling and offer redress where appropriate. This covers products sold on or after 1 December 2001 and will be subject to independent review and monitoring by the FSA.
Central to the FSA’s findings is the conflict between the complexity of the hedging product and the financial acumen of the customer, which is then compounded by poor sales practices. This agreement follows an escalation in complaints about these products from small and medium-sized enterprises. The banks had adopted a hard line towards these complaints. They were not alone - the Financial Ombudsman Service (FOS) had reviewed a number of complaints and nearly always supported the bank’s assessment. Court proceedings were issued in a few cases but generally resulted in settlements on confidential terms. Regulatory indifference pervaded until political and media pressure was applied.
The volte face shown by the banks could well be due to their desire to limit external involvement in the review and redress. Disciplinary action by the FSA may follow. While this agreement represents an important step forward, nevertheless it is less draconian than has been portrayed in the press, and loose ends remain.
Automatic redress is restricted to structured collars and not callable swaps, which have also been heavily criticised. ‘Sophisticated customers’ are not included in the review notwithstanding that their bank may well have classified them as a private customer or retail client, and that the banks have agreed to cease selling structured collars to all retail clients (even if ‘sophisticated’). No specific timescales have been announced. The basis upon which redress is to be given has not been adequately iterated other than as what is ‘fair and reasonable’. It is inevitable that there may well be a chasm between what the banks and their customers perceive as appropriate redress. The banks may well argue that redress should be assessed on the basis of an alternative fixed rate mortgage product.
Customers will, however, seek to have a cost-free exit of their product, refund of monies paid under their contract and interest as a starting point. In addition, many placed in the business support unit of their banks had to fund a review of their business by independent accountants as well as meet additional overdraft interest and other bank charges - they will want these costs refunded. This leaves aside consequential losses claimants see as attributable to the mis-sold hedging product. Claimants will need to be mindful of limitation issues in the event of them not achieving settlement.
Cynics may query the extent of independence of the review. Will customers have confidence in the appointment of an independent reviewer which has historically advised banks? Will the FSA require that the personnel used by the banks to review previous complaints are not used for the purposes of this review? The FSA has not mentioned how cases where the customer has gone into liquidation or bankruptcy due to the hedging product will be dealt with.
Furthermore, it has not stated whether it has reviewed the sale of these products from a best execution perspective - including the margins on these products at the outset of the contract. A growing concern about how exit fees have been calculated (where a bank may make its own pessimistic assumption about future interest rate levels and only apply a modest discount for early settlement) has also not been addressed by the FSA. The FOS will have to decide upon its approach towards what now appears errant decision-making.
The regulator will know it is taking a risk in giving the banks a chance to sort matters out. The FSA, presumably mindful of the conduct of claims management companies during the PPI debacle, states that this process will be ‘straightforward’. All parties (claimants and banks) hope that assertion will prove to be correct.
Stuart Brothers is a consultant to SRBlegal Business Lawyers. He contributed to the FSA review and briefed a group of MPs on the issue