Interest Rate Swap Products

Ian Swales Excerpts

Thursday 21st June 2012 Commons Chamber

[Ian Swales (Redcar) (LD)]

I congratulate my hon. Friend the Member for Aberconwy (Guto Bebb) on securing this important debate and on his excellent work on the matter under discussion.

I am a former finance director of a £1 billion global business, so I am well aware of the benefits of bank services and financial products such as exchange rate hedging, but I am shocked that they are deemed appropriate for small businesses. Like other Members, I have received complaints, and I shall highlight two of them.

Stephen Lilley is a constituent of mine and I believe he is present in the Gallery now—probably. He has given me permission to raise his case. He owns a hardware company in Marske-by-the-Sea, and in late 2006 he bought an interest swap covering 15 years. I have read the telephone transcripts of the conversations between HSBC and the directors of his company whereby the swap was agreed, and they show a clear example of mis-selling.

The directors made it clear that this was their first ever business venture. They wanted loans for a maximum of 15 years and hoped to have them paid off before the end of that period. During a complex discourse on the products, one statement made was:

“The reason we do this rather than doing say an…inclusive fixed rate is that in the future if you want to renegotiate or look at your lending margin, obviously you can’t do that if it’s included as part of the fixed rate”.

Those were apparently warm words. A number of other inappropriate comments were made in the conversation, and no mention was made of the fees being earned by the seller.

The climate is tough for the hardware shop and, in a move that can be described only as bullying, it is now being charged £500 a month for a “relationship manager” who provides no service. I fail to understand the logic of charging a struggling business an extra fee for struggling. Mr Lilley is not a young man and he now faces the real prospect of losing his business and his house, and, as I understand it, still being locked into a financial product that was badly sold. It is difficult for him to fight the bank on which he depends so heavily, and I see it as our responsibility to fight for people in his position.

I would also like to highlight the case of another of my constituents. The case of Mr Roy Myers has been mentioned on the BBC, and it has features common to many of the other cases we are hearing about. Roy owns the outstanding O’Grady’s hotel in Redcar and the Victoria pub in Saltburn. He is not naive; he has owned other pubs and hotels, and formerly had a responsible job in Her Majesty’s Revenue and Customs. He had negotiated a loan and was presented with a base rate swap agreement to sign on the very day when he simply expected to sign for the loan. No proper selling took place and he was given no options. It was never properly explained to him that he was locked in for 10 years and that there could be huge exit costs. Mr Myers had previously bought and sold businesses and paid off loans, and he never expected to be locked in like this because of a financial product.

[Damian Collins]

My hon. Friend mentions that the exit costs had not been properly explained. Does he share my concern about this issue, as my constituent is in a situation where what were called “negligible” exit costs ended up being worth more than 50% of the value of the loan?

[Ian Swales]

I thank my hon. Friend for that comment. He raises an important point that is true of many of the cases we are talking about today.

To be fair to the banks—not a phrase I expect to hear a lot in this debate—I have pointed out to Mr Lilley and Mr Myers that people in their position may have considered a fixed rate term product had it been offered at the time. So some of the loss figures we are now talking about may be a bit misleading, as they can be calculated only with hindsight and, in effect, constitute a one-way bet. Mr Lilley did in fact make small gains through rate hedging in the very early months of his contract, but these products remain toxic. Clear discussions should have taken place at the time as to whether the borrowers wanted variable or fixed rates.

Many small businesses such as those I am discussing are reluctant to challenge their lenders on these specific issues, as they do not want to put their bank facilities at risk. The Financial Ombudsman Service rarely upholds complaints, so their only recourse is a litigation process, which, obviously, serves only to incur more costs. Bankers seem to be working for themselves first and for their clients second. We heard just a few weeks ago about Goldman Sachs referring to its clients as “muppets”. This world of over-complicated products and dodgy selling has to stop.

A small business person should be able to rely on a bank to work in their interests, and not be seen as a sales channel to another part of its organisation. We should not expect business people to be personally expert in these kinds of products, nor should they have to pay separately for a financial adviser. We should also remember that accountants—and I am one—may not be allowed to give advice on these kinds of products unless they are also registered as financial advisers. So these products have clearly been designed to make money for the banks, which, by definition, means extracting more money from the small and medium-sized business sector. Some of these products are no more appropriate for small businesses than they would be for a household mortgage. Banks are surely worried about their reputations, and I have been very happy to name and shame HSBC today. Banks can recover their reputation by dealing constructively and generously with those affected, rather than engaging in continuous and expensive litigation. Special consideration should be given to those such as Mr Lilley, whose arrangement, made in November 2006, would almost certainly have breached the FSA suitability regulations introduced in November 2007. I agree with the hon. Member for Wolverhampton North East (Emma Reynolds) on the urgency of dealing with this problem, given that Mr Lilley’s arrangement is six years old in five months’ time.

I salute my constituents’ bravery in coming forward and hope that more will do so. I hope also that right hon. and hon. Members will support the recently announced FSA investigation. Finally, I hope that the Minister will act swiftly on the FSA’s recommendations and take another step to stop such predatory activity by banks in our vital SME sector.

--- Later in debate ---

[Mark Garnier (Wyre Forest) (Con)]

I, too, would like to add my name to the long list of people who will be congratulating my hon. Friend the Member for Aberconwy (Guto Bebb) on securing not only the debate, but a great deal of support from the outside world and a community that has been badly affected by these events.

I suspect that we are now at the beginning of what will amount to yet another large mis-selling scandal. I completely endorse the comment of my hon. Friend the Member for Aberconwy that the last thing we need is the spectacle of bus loads of ambulance-chasing lawyers charging across the countryside looking for businesses that have been mis-sold these products. It is incredibly important that we try to resolve the problem before members of the legal profession take advantage of it as an opportunity to feather their nests. These events come at a time when small businesses are struggling to make sales and win orders and contracts. It is a time when the banking system is adding yet another problem to small businesses. It is something we need to try to resolve.

These products, which really amount to caps and collars, should have been relatively straightforward products. They should not be dissimilar to a fixed rate mortgage. Rather than being like a fixed rate mortgage stating that the customer will pay 3% or 5% for five years, for example, they should have stated that the customer would pay between no less than 3% and no more than 8% over a five-year period or whatever. In that respect, such a product would have been a very straightforward cap and collar.

The problem is that the products were written before this period of super-low interest rates. Of course, interest rates have since fallen well below the collar, so the products are not actually cap and collar products; they are cap and noose products. Rather than holding the interest rate at the lower level, the noose has the effect of bouncing the interest rate up, thereby creating a higher rate than the customer would otherwise have expected and, in some cases, than they would have paid at the rate of interest in the first place.

The result is that these products are far more complex than they would normally have been. I declare a history of serving as a compliance officer for an FSA-regulated firm before being elected to this place. We used to spend a huge amount of time ensuring that we classified our clients properly to make sure that the products that were sold were aligned with the abilities. I fear that what is happening here is that we have a misalignment of customer classification. There are salesmen who are not experts in the products and do not know a huge amount about them, and they are selling them to customers who are clearly not experts in the products at all. Under these circumstances, a huge problem is brewing.

The Chair of the Treasury Committee mentioned the fact that in yesterday’s Sub-Committee meeting we met Adair Turner, who assured us that he would go to great lengths to investigate the whole process. Subsequently, I asked Martin Wheatley, the other witness and director of the FSA’s conduct business unit, whether the authority will be looking into the whole business of misclassifying clients as well as salesmen, and he said that without a shadow of doubt it will be specifically doing so, so I sincerely hope that we will reach a speedy resolution on that issue.

[Ian Swales]

The hon. Gentleman makes the powerful point that we do not expect small business owners to be experts, but that their accountants are not often experts, either. The people whom they deal with who will most often be experts are their bankers, so where does he feel that small business owners should get their independent financial advice from?

[Mark Garnier]

That is an incredibly important point. We live in an ever-increasingly complex world, and banks are competing against each other to come up with more and more sophisticated products that appear to be user-friendly, such as simple fixed rate mortgages. But as products become more complex there are more hidden elements in the contracts that people sign, such as in the one under discussion, whereby in a completely unforeseen period of super-low interest rates, business owners have to pay what amounts to a fee to buy themselves out of the contract’s residual value.

People then get into very complex calculations to try to understand what is going on, and the economic value of, and internal rate of return on, the contract. That is when things go way above the pay grade of most people, apart from those specialists sitting in dealing rooms in Canary Wharf who really understand such stuff. So, as part of the banking review and the Financial Services Bill that is passing through Parliament, we need to look very carefully at the classification of customers and of salespersons in order to get back to the fundamental point that we have to match products to a customer’s ability to deal with them.