The costs to redress the mis-selling of interest-rate hedging products will cost UK banks some earnings in the short term, and it also highlights the ongoing risks they face from their conduct, notes Fitch Ratings.
The rating agency says that the costs of redress should be manageable for the banks, but that they will nevertheless dent their net earnings prospects in the short- to medium-term. The redress exercise comes in the wake of a pilot review by the UK’s Financial Services Authority (FSA), which found that over 90% of interest-rate swaps sold by the four largest UK banks failed to meet regulatory requirements and that a significant proportion are likely to result in customer compensation.
As a result, the FSA announced the start of a full review by the largest four UK banks, Barclays, HSBC, Lloyds and RBS. Other banks, such as Allied Irish Bank (UK), Bank of Ireland, Clydesdale Bank, Co-Operative Bank and Santander UK, are finalizing their pilot findings ahead of a full review.
“It is difficult to quantify the redress costs for the whole industry but they are unlikely to be as large as other misconduct costs, such as the payment protection insurance compensation and LIBOR fines,” it says.
Fitch says the large UK banks started provisioning for mis-selling costs in 2012, making around £700 million ($1.1 billion) of provisions. It expects these provisions to rise, but it notes there are far fewer potential cases than there are in the mis-selling of payment protection insurance (PPI), so the amounts involved should not be as large. Provisions to redress PPI totaled over £12 billion ($18.9 billion) for the industry so far, and could rise further as claims continue to be submitted to the banks, Fitch says.
Moreover, it also says that it expects conduct risks to remain high for the banks. “Increased scrutiny of banking conduct and standards by customers, politicians and regulators means that the creation of new high-risk products, including benchmarks, will be substantially reduced,” it says. “We expect banks to strengthen systems, controls and governance to minimize conduct risks. But it would be unrealistic to assume that the worst is over for the industry from the previous generation of complex products. We believe conduct risk may emerge from a number of sources that have yet to be identified.”