Sunday 26 August 2012

Farmers sold a lemon

More on the sale of interest rate swaps to farmers,. Which we covered last week

Risk experts: banks left farmers in dark
Risk and derivative experts say banks, including ANZ National Bank and Westpac, should not have sold complex interest rate swaps to farmers

Rob Stock

26 August, 2012

Claims are also emerging that though swaps were sold as "interest rate risk management" tools, unsophisticated farmers lacked the expertise and tools to monitor their position, and were provided with little or no ongoing support or advice to manage their interest rate risks.

One of New Zealand's best-known risk advisers, Roger Kerr from Asia-Pacific Risk Management, said he believed at least a proportion of the swaps were sold to farmers who did not know what they were buying.

Kerr said the banks appeared to have done little to help the farmers to manage their swap exposures as the global financial crisis emerged, interest rates plummeted and farmers were left "straitjacketed".

"These banks marketed these as something better than term loans, more flexible, but they didn't explain the full story to people," he said.

"Some of the banks were very aggressive in seeing this as the way of generating profits for their dealing rooms."

He likened the swap sales to the damaging sale of foreign currency loans for farmers nearly three decades ago.

In the past two weeks, Sunday Star-Times has reported on claims that many billions of dollars of farm loans were "covered" by interest rate swaps sold by banks.

Farmers bought the swaps as a kind of insurance against rises in interest rates but, when interest rates fell, they had the effect of locking them into interest rates in some cases over 10 per cent on their loans.

It's a situation that appears to echo stories emerging from Britain, where swaps were also sold to farmers and small businesses, though there it led to an investigation by the Financial Services Authority, which concluded there was widespread mis-selling.

While farmers continue to call this newspaper to talk about the extra interest they have found themselves paying, or the large break fees they faced to unwind their swap positions, the banks concerned are refusing to talk to Sunday Star-Times about the allegations.

Kerr said that to use risk-management tools such as interest-rate swaps, a buyer needed the systems and expertise to monitor their position.

Farmers we have spoken to said they did not understand they had to monitor their positions, and had no tools to do so.

They also say that, when their interest rate costs started to rise as a result of their swap positions, they did not receive any advice from the bank about what to do. Several said they struggled to get their banks to explain what was happening to them.

"Some of the borrowers thought the bank was going to continue to service them with interest rate recommendations and managing their swaps. They didn't," said Kerr, who has consulted with farmers about their swap positions.

"When interest rates collapsed, they ran away," he said.

Once interest rates started moving against businesses with swaps, there were actions they could take to ameliorate their positions, but the farmers we have spoken to were not aware of this.

"What happened with these farmers is they were forgotten about," Kerr said.

Farmers have now sent Sunday Star-Times some of the marketing and disclosure documents provided to them by ANZ National Bank and Westpac.

One National Bank presentation document said: "Interest rate swaps are transacted directly with an NBNZ interest rate market specialist who is available on an ongoing basis to discuss interest rate trends and opportunities to alter the risk profile over the term of the swap".

Another sent by a different farmer says: "NBNZ Rural Banking Interest Rate Risk Management is about utilising interest rate market specialists equipped with strong market knowledge and flexible tools to recognise those opportunities and threats, to proactively manage this risk."

Under the "What we do . . ." section of the presentation, it says: "Advise and recommend to RMs/clients interest rate risk strategies, including appropriate fixed rate financial objectives."

The farmer who sent that to us said: "There was no proactivity at all."

One derivatives specialist told Sunday Star-Times the disclosure he had seen from the banks did not misrepresent the nature of the swaps, though there was a question in his mind over illustrations showing possible scenarios which assumed an unchanging bank margin.

One of the biggest sources of anger for the farmers we have spoken to is that the banks lifted their margins as they were allowed to under the swap agreements.

But the expert also said the complexity of pricing swaps meant that farmers would have had no way of assessing the real costs of the instrument they were buying.

He also questioned whether there were sufficient people expert enough in swaps in New Zealand to have advised farmers independently.

"How does a farmer in New Zealand get an independent price on that product? Where does he get it from?" he asked.

He said using swaps to manage interest-rate risk really required expertise. "You would need a proper chief financial officer like Telecom and Fonterra have," he said.

"Taking swaps on board in a volatile economic environment is akin to gambling, if you are not an expert.

"The banks should have more sense than to expose their clients to this."

Exactly what will happen next is unclear, but Kerr believes that there will be a repeat of the 1980s when there was a scandal over banks selling farmers low-interest, Swiss-franc-denominated loans which exposed them to high currency risk.

Then lessons were learnt by farmers and the banks but no formal investigation or court-testing of the facts ever occurred.

"Go back to the late 80s. They tried to get group actions together, but the banks stopped it before it got to court," Kerr said. "The banks will do deals so it does not get into the public arena."

But Kerr says it is too simple just to blame the banks.

Businesses, including farmers, need to always apply the principle of caveat emptor to the products and services they buy, and so they, and their advisers, must accept some of the fault.


When farmers bought interest rate swaps many say they trusted their bank adviser. But despite now saying they did not understand the nature of the swaps, and blaming the banks for not explaining their potential pitfalls, they signed complex swap agreements, and acknowledged terms and conditions which said they did.

One National Bank swap document also states that the bank had no "fiduciary" duty of care towards the farmer buying the swap. It reads: "Each party is capable of assessing the merits of and understanding (on its own behalf or through independent professional advice), and understands and accepts, the terms, and conditions and risks of that transaction.

It is also capable of assuming, and assumes, the risks of that transaction. No party is acting as a fiduciary for or an adviser to the other in respect of that transaction." It also says that, in entering the transaction, the farmer is not relying on any communication made by the bank.

But despite the existence of such warnings, and of signed agreements, some farmers have told Sunday Star-Times of the deals their banks have done with them. Speaking anonymously as they say they have signed gagging agreements not to speak of the deals, they report banks waiving break fees on swaps, which can run into hundreds of thousands of dollars, or cutting their margins on loans.

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