When the LIBOR interest-rate fixing scandal broke wide open over the summer, I asked whether it was “The Crime of the Century.” The answer to that question relied on whether banks were understating their LIBOR submissions in order to appear stable at the height of the financial crisis, or whether LIBOR manipulation was a more widespread phenomenon involving collusion across financial institutions in order to profit off of derivative trades.
With the announcement yesterday of a $1.5 billion dollar fine, paid to regulators in the U.S., U.K., and Switzerland, against Swiss bank UBS., we have our answer. The British Financial Services Authority published a 40-page notice announcing the action, and it is rife with damning evidence that UBS employees were colluding among themselves and with traders and brokers at other institutions to manipulate interest rates for their own profit. The FSA found that compared to Barclays, the transgressions at UBS were worse:
“UBS’s misconduct is, although similar in nature, considerably more serious than Barclays’ because it was more widespread within the firm . . . More individuals, including Managers and Senior Managers, participated in or knew about the manipulation and there were more instances of individual manipulation, across more currencies. Furthermore, the extent to which UBS colluded with others was significantly greater and involved financial rewards being paid to Broker Firms.”
The FSA’s most damning evidence against the bank is a series of electronic messages sent between bank employees and traders and brokers outside the firm, in which fraud is overtly agreed upon. In one exchange, a UBS trader begs an outside broker to help him influence a particular Japanese Yen LIBOR rate. According to the FSA notice:
“In the course of one campaign of manipulation, a UBS Trader agreed with his counterpart that he would attempt to manipulate UBS’s submissions in “small drops” in order to avoid arousing suspicion. The Trader made it clear that he hoped to profit from the manipulation and referred explicitly to his UBS trading positions and the impact of the JPY LIBOR rate on those positions. He offered to “return the favour” and entered into facilitation trades and other illicit transactions in order to incentivise and reward his counterparts.”
The notice goes on to quote an exchange between the trader and broker in which the trader explains, “if you keep 6s [i.e. the six month JPY LIBOR rate] unchanged today … I will f—ing do one humongous deal with you … Like a 50,000 buck deal, whatever … I need you to keep it as low as possible … if you do that …. I’ll pay you, you know, 50,000 dollars, 100,000 dollars… whatever you want … I’m a man of my word.” Subsequent trades between UBS and this broker generated more than $250,000 in fees to the broker, according to the FSA notice.
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The forty page report is filled with such exchanges, making it clear that these practices were widespread at the firm, directly involving 45 employees, 11 of whom were managers. “At least two further Managers and five Senior Managers were also aware of the practice of the manipulation of submissions to benefit trading positions,” the report said.
But there is a silver lining in all of this corruption, in that these transgressions are so egregious that financial regulators have been forced to take the issue very seriously. The $1.5 billion fine is a big number, more than a third of UBS’s 2011 profit. But the more important development is that regulators are pursuing criminal proceedings against the bank and its employees. U.K. authorities have already made several arrests in relation to the case, and U.S. authorities may follow suit. In addition, the U.S. Justice Department got a Japanese subsidiary of UBS to plead guilty to wire fraud. It has been rare for regulators anywhere to criminally prosecute banks, as they fear such actions could harm stability in the financial system. Perhaps the action against UBS is the first crack in this dangerous point of view. As an op-ed in Bloomberg News argued yesterday:
“Criminal indictments, though, would do more to change the culture among the individuals who performed, aided and abetted deceitful acts, and to restore faith in markets. Authorities should also force banks to divulge information on their true borrowing costs over the period in question, so the financial effect of their transgressions — and the required compensation to investors – can be calculated.”
For the global financial industry, this ruling is just the beginning. Several other large banks should still expect enforcement actions brought against them, and any bank involved in the scandal should expect to be fighting lawsuits involving LIBOR for years to come. On October 15, The Financial Times reported on a lawsuit brought against 12 of the world’s largest banks by five Alabama homeowners, which alleges that rate manipulation increased the interest they had to pay on their mortgages by thousands of dollars. Given how widely used LIBOR is to price financial instruments, homeowners are just one group that could have potentially lost money due to rate manipulation. In light of these suits and regulatory actions still to come, expect the financial crime of the century to be with us for years to come.