Hubris: How HBOS Wrecked the Best Bank in Britain (40 page)
Read Hubris: How HBOS Wrecked the Best Bank in Britain Online
Authors: Ray Perman,Alistair Darling
He was questioned at length about a letter he wrote to Callum McCarthy, chairman of the FSA, in March 2008 just after the run on HBOS shares. In answer to a question on how he was feeling,
Stevenson wrote:
I and we are feeling about as robust as it is possible to feel in a worrying environment which we would rather did not exist! As I said to you we have faced into the need to
be boringly boring for the next year or two and we are setting out our stall to do that.
To be more specific about our position as I think you and your colleagues at the FSA know, we have had no problems in financing ourselves over the past six months even on the hairiest of
days and weeks. Our close monitoring of the key people who finance the London market (particularly in the USA) suggests that our brand and reputation have held and are solid.
In fact HBOS was already facing liquidity problems and within four months would have to go to shareholders with a rights issue to bolster its capital.
Stevenson’s letter went on:
This notwithstanding, we adopted late 2007 a substantially pared down business plan for 2008 which sees us growing assets far slower than
liabilities. We said then that if we did not see markets turning by the end of February 2008 we would ratchet it down again. And we have. We have just taken the decision to reduce our asset
growth plans by a further £6 billion and increase our deposit plans by a further £13 billion. The net net is that during 2008 we will grow our assets by just 4% and increase our
deposits by 12%.
The reality again was different: HBOS had lost control of its lending. The corporate banking division did not have the liquidity to make new loans, but could not stop existing customers drawing
down cash on facilities already granted. Many individual facilities were in the hundreds of millions, some were in the billions.
Stevenson’s conclusion was extraordinary:
My soberly considered view is that given the extraordinary external environment,
HBOS in an admittedly uncertain and worrying world is in as secure a position as it
could be
. Happy to be cross-questioned on this but I hope you know me well enough to know this is neither a bravura nor an ill considered statement.
He went on: ‘
What keeps me awake at night?
. . . I am not aware of any lurking horrors in our business or our balance sheet. Quite the reverse.
While it is difficult to believe that we will not see some deterioration in our
underlying businesses, we do not see any significant issues currently.
How would we fare if liquidity completely dried up, you asked? Does that keep me awake at night? Well yes of course one worries about everything, but the answer is no! First, our close
monitoring of those who supply the lines of credit leads us to the view that the circumstances in which ours would be withdrawn would either be the ‘freak’ circumstances outlined above
(but even that is judged to be unlikely) or where the world has collapsed to an extent that all bets of all kinds are off. The commonsense of the situation is that
we are dealing with lenders
looking to lend money to a highly conservative institution.
Commission members jumped on the letter. Former Chancellor Lord Lawson: ‘You said in your letter . . . that HBOS was a ‘‘highly
conservative
institution’’. This was clearly the reverse of the truth . . . Either when you said that you were being dishonest, or else, if you believed it to be correct, you were delusional. I
prefer to believe that you were not dishonest, and you were simply delusional.’
TYRIE
: So your base date for ‘as secure as it could be’ is compared to the day before you wrote the letter, or the week before you wrote
the letter, or the month before you wrote the letter?
STEVENSON
: Can I just – I am trying to help.
TYRIE
: I don’t think you are helping us at all. Clearly, this is trying to say, ‘Don’t worry, HBOS is a safe bank,’ when clearly it is not a
safe bank.
Stevenson’s evidence took over three hours and ended on a sour note.
TYRIE
: Do you understand that when you come out with phrases or sentences such as, ‘We may have missed a trick on the corporate loan
book,’ people may wonder whether you really are in the real world?
STEVENSON
: I hope –
TYRIE
: Do you know what the losses were?
STEVENSON
: I do know what the losses were.
TYRIE
: How much were the losses on the corporate loan book?
STEVENSON
: About £25 billion.
TYRIE
: Yes, £26 billion. Do you know what the corporate tax yield is in the UK?
STEVENSON
: I don’t.
TYRIE
: Okay; well, it is about £38 billion. We are talking about two-thirds of the whole of the UK’s corporate tax yield going down the Swanee because of
appalling loan decisions in the corporate loan book, which you are describing as having ‘missed a trick’.
I think we have taken this about as far as we can today. Some witnesses have been very frank with us, and it has been clear to us from their evidence that some have been looking the reality
of this catastrophic series of events in the face, and some have not. I regret to say that on the basis of what I have heard over three and a half hours, the evidence today has been in the
latter category.
STEVENSON
: Might I ask what you think I have not been frank about?
TYRIE
: You have been evasive, repetitive and unrealistic.
Retribution of a sort
The commission report published in April 2013 provoked intense media coverage
7
and fierce public indignation at the three
men named as being most responsible for the crash – Stevenson, Crosby and Hornby. The title,
An Accident Waiting to Happen
,
1
was taken from the description Mike Ellis had used to the board in 2004 when explaining the FSA Arrow notice, which had suggested that the Group’s growth had outpaced the ability to control
risks. Ellis had said that the FSA’s points were not new, they had already been identified by HBOS. One of the main thrusts of the commission’s argument was that there had been warning
signs throughout the Bank’s life, but they had been either ignored or too little action had been taken.
The report was remarkable for being detailed, closely argued and supported by strong evidence, but written in straightforward language intended for readers without technical knowledge. It was
also laced with phrases to be picked up by newspaper headline writers or used as broadcasters’ soundbites. Besides the title, the history of HBOS was described as ‘a manual for bad
banking’. The FSA was ‘not so much the dog that did not bark as the dog barking up the wrong tree’. Far from being ‘a highly conservative institution’ in a safe
harbour, as Stevenson had alleged in his letter to the FSA in March 2008, ‘HBOS was in a storm-tossed sea. It was also holed below the water line.’
Blame for the downfall of HBOS was placed squarely on Sir James
Crosby, as architect of the strategy that set the course for disaster, Andy Hornby, who proved unable or
unwilling to change course, and Lord Stevenson, who presided over the Bank’s board from its birth to its death. ‘Lord Stevenson, in particular, has shown himself incapable of facing the
realities of what placed the bank in jeopardy from that time until now.’ The commission expressed ‘profound regret’ that the FSA’s enforcement actions had been ended before
these men could be punished as a deterrent to others in the future, and called at least for a lifetime ban on working in financial services.
In addition to using counsel to carry out most of the questioning of witnesses, the commission had employed experienced bank analysts to sift through the papers and evaluate the evidence. Most
of the report was a careful analysis of what had gone wrong at HBOS, but underlying all other mistakes was a dangerous culture.
The strategy set by the board from the creation of the new group sowed the seeds of its destruction. HBOS set a strategy for aggressive, asset-led growth across divisions
over a sustained period. This involved accepting more risk across all divisions of the group. Although many of the strengths of the two brands within HBOS largely persisted at branch level, the
strategy created a new culture in the higher echelons of the bank. This culture was brash, underpinned by a belief that the growing market share was due to a special set of skills which HBOS
possessed and which its competitors lacked. The effects of the culture were all the more corrosive when coupled with a lack of corporate self-knowledge at the top of the organisation, enabling
the bank’s leaders to persist in the belief, in some cases to this day, that HBOS was a conservative institution when in fact it was the very opposite.
For the first time the commission estimated the losses of HBOS, which totalled a staggering £54 billion – £46 billion of loan ‘impairments’ and over £7
billion lost on treasury derivatives. More than 10 per cent of total lending went sour. In absolute terms the collapse of RBS had been bigger, but as a proportion of loans written off, HBOS was
twice as bad. Most of the money had been lost in the corporate banking division, where the £26 billion of ‘impairments’ would have been enough on their own to sink the Bank. But
£15 billion had also been lost in the international division, most of it in Ireland, where more than a third of all loans made had gone bad.
Australia had escaped most
of the fallout from the credit crunch and had not suffered a recession, yet HBOS still managed to lose £3.6 billion there, a quarter of all its lending.
Retail was the least affected lending division, but still lost £7 billion, mostly on its unsecured loans and non-standard products, such as the notorious 125 per cent, self-certified and
buy-to-let mortgages.
As the financial crisis hit, the HBOS treasury division turned from a source of profit to losing £7.2 billion, which alone would have required recapitalisation of the group. ‘All
relevant functions at HBOS, from the board downwards, did not properly understand the nature of the risks embedded in the treasury division’s structured investment portfolio, either from a
credit risk or liquidity perspective.’
The report detailed the failings of the group’s federal management structure and its risk functions, which had low status throughout the Bank and were fatally undermined by a lack of
expertise and experience. It added: ‘The weaknesses of group risk in HBOS were a matter of design, not accident. Responsibility for this lies with Sir James Crosby, who as Chief Executive
until 2005 was responsible for that design, with Andy Hornby, who failed to address the matter, and particularly with Lord Stevenson as Chairman throughout the period in question.’
The commission was especially scathing about the HBOS board and held up to ridicule Sir Ron Garrick’s assertion that it was the best board he had ever sat on and Lord Stevenson’s
claim that governance was ‘rather good’.
The corporate governance of HBOS at board level serves as a model for the future, but not in the way in which Lord Stevenson and other former board members appear to see it.
It represents a model of self-delusion, of the triumph of process over purpose.
The board lacked banking knowledge and did not have the experience or expertise to identify the core risks that the Bank was running.
Judging by the comments of some former board members, membership of the board of HBOS appears to have been a positive experience for many participants. We are shocked and
surprised that, even after the ship has run aground, so many of those who were on the bridge still seem so keen to congratulate themselves on their collective navigational skills.
The report laid a serious charge at the door of the directors: ‘Consumers and the wider economy, as well as shareholders and taxpayers, have paid a heavy price for
the blunders of the HBOS Board.’
The commission entirely dismissed the assertion that HBOS was brought down by the unforeseen worldwide liquidity crisis, rather than its own actions. Had that been the case the effects would
have been much less. Much of the funding problem the Bank faced was caused by the market worrying about the quality of the Bank’s lending – fears which proved to be entirely
justified.
The commission was very disappointed by the attempts of those who led HBOS into the abyss to acknowledge, even now, either the nature of the problems that eventually
consumed the bank or the extent to which they flowed from their own decisions rather than unforeseeable events. No bank is likely to be immune from the effects of an economic downturn, but the
scale of HBOS’s credit losses was markedly worse than that of any of its major peers [the Big Four UK banks]. In these circumstances, the apologies of those at the top of HBOS for the
loss imposed upon the taxpayers and others ring hollow; an apology is due for the incompetent and reckless board strategy; merely apologising for having failed to plan for an unforeseeable
event is not much of an apology.
The FSA also came in for fierce criticism from the commission, which said its regulation was thoroughly inadequate. In the three years following the merger of Halifax and Bank of Scotland, the
FSA had identified some of the issues that would eventually contribute to the group’s downfall, but failed to follow through and was too easily satisfied that they had been resolved. It also
took too much comfort from reports prepared by third parties rather than doing the work itself. International regulation, in the shape of the Basel II framework ‘not only weakened controls on
capital adequacy by allowing banks to calculate their own risk-weightings, but also distracted supervisors from concerns about liquidity and credit; they may also have contributed to the appalling
supervisory neglect of asset quality. The FSA’s attempts to raise concerns on these other fronts from late 2007 onwards proved to be a case of too little, too late.’