Insights

English Courts Dismiss Interest Rate Swap Misselling Claim

FSA-Imposed Review of Sale of Interest Rate Hedging Products Continues

In 2011, the Claimants in John Green and another v The Royal Bank of Scotland plc (21 December 2012), who carried on business in partnership, found themselves in a fix. They had entered into a swap in 2005 to protect themselves against interest rate rises on loans for the purchase of property, and the swap was heavily out of the money. They wanted to restructure their partnership and therefore needed to restructure their borrowings and the swap. They found they could not do this without incurring some significant break fees on the swap. Further, they could not transfer the loans to another bank to avoid having to pay higher margin above base rate because no other bank was willing to accept a transfer while the swap was still in place. This problem is not uncommon among borrowers who have entered into interest rate swaps and who now want to refinance or restructure their loans.

The Claimants' response to their predicament, ahead of the FSA-imposed review into the sale of interest rate hedging products, was to commence proceedings against the bank claiming damages. Judgment was handed down on 21 December 2012 in the Manchester Mercantile Court by His Honour Judge Waksman QC. The claims were all dismissed.

Claims

By May 2005, the Claimants had formed the view that "rates would come down in the short term and then rise so were keen to hedge at current market rates" (as helpfully recorded by the bank's representative in a contemporaneous note). In other words, they had formed their own view on future interest rates rather than necessarily relying on the views of others. Consequently, they entered into an interest rate swap for a period of 10 years in order to obtain protection against rate rises. For a period of time, in particular when interest rates rose in 2006–2007, they profited from the swap. By March 2009, however, when interest rates fell to an all-time low, they fared very badly under the swap. There was nothing inherently complicated or wrong about the swap (it was not structured and did not include a cap or collar), and on one view it was simply a case of bad luck or betting the wrong way.

The Claimants' case was that they had been missold the swap. It was alleged that the bank had made negligent misstatements about the swap and how it would operate, and that while being under a duty to advise the Claimants, had failed to do so or had given negligent advice. No claim was made under Section 150 Financial Services and Markets Act 2000 ("FSMA") as it was accepted that such a claim was time-barred, although the bank's regulatory duties were prayed in aid of the negligent advice claim.

By the end of the trial, the real complaints made by the Claimants were that (i) the bank had negligently stated that the costs of breaking the swap would be "affordable" or "minimal" when in fact they were significant, and in any event the bank should have provided more information on the break costs, (ii) the bank had negligently stated that the swap fixed not only the base rate for the loan but also margin above the base rate, or alternatively had stated that the margin would be fixed for all time, and (iii) the bank had advised that the swap was a good idea and that they should enter into it, which was negligent.

There was some evidence that supported the Claimants' case. The bank's representative fully accepted that she had been concerned about the Claimants' ability to service the loans because she thought that interest rates might rise and that they should therefore consider an interest rate protection product. She was also firmly of the view that the bank would not increase the margin and accepted that the Claimants would have thought that both the base rate and the margin were fixed by the swap. She had considerable sympathy for the Claimants in her meetings with them and in her internal communications at the bank after the problem had arisen, and in more than one record appeared to accept that the product had been missold.

Judgment

In his judgment, the judge described the Claimants as intelligent and experienced businessmen. As in other misselling cases, this was clearly an important consideration. Another important feature of the judgment is that the judge was clearly impressed by the bank's witnesses and generally accepted their evidence. He described one as "honest, careful, and reliable with a clear understanding of how she structured her meetings when instruments such as the swap were explained to customers". This undoubtedly influenced his approach to conflicts of evidence. He accepted the bank's case that it had not offered any view at the time of sale on the potential amount of break costs. He also held that the information given by the bank to the Claimants on break costs was fair and sufficient, noting that it had always been open to the Claimants to ask for more details. He found that the Claimants understood full well that the swap itself did not fix margin and that they were not told otherwise.

Importantly, he also found that the bank had not advised or by its conduct assumed a responsibility to advise on the swap or made a recommendation. If he was wrong on this, he held that the advice had not been negligent and that the product had been suitable for the Claimants' needs. If a Section 150 FSMA claim had been brought, it would not therefore have been successful. In reaching the conclusion that there was no advisory relationship, it was not necessary for the judge to consider or rule on the effect of the "no advice" and "no reliance" provisions in the contractual documentation, although he noted in passing that "no advice" provisions can be invoked to negate or delineate the ambit of any duty of care. Grant Estates v RBS plc (2012).

Conclusion

From the point of view of future claimants, this judgment is not helpful. This particular claim is probably not one that they would have chosen to run as a test or lead case. Not surprisingly, lawyers advising claimants on interest rate swap misselling claims have notably and necessarily sought to distinguish it on the grounds (among others) that the Claimants were more sophisticated than many other claimants, the interest rate product was not complex and, as the Judge himself observed, the case was fact-sensitive. This is undoubtedly true, but some fact-sensitive judgments do provide some indication of how the courts will approach similar cases in the future.

The judgment confirms the importance of creating and keeping reliable documentary evidence of the events and circumstances surrounding the sale of financial products, and also the veracity and competence of those witnesses who are subsequently called to give evidence of this. While some witnesses will resist making any admission at all that any advice was given, it is clear that the courts do not necessarily treat the expression of opinions or views as meaning that the relationship was or became advisory. This is also clear from the first instance judgments in Springwell v JPMorgan (2008) followed in Bank Leumi (UK) plc v Wachner and in Wilson v MF Global (2011) where, despite many conversations between the bank and its customer in which trading floor views and opinions were expressed and exchanged, the relationship was held not to be advisory.

The judgment does not of course have any direct application to cases that are currently being considered as part of the FSA-ordered review of the sale of interest rate hedging products. It will not necessarily deter claimants from seeking redress in the courts in the future, particularly if their claims are rejected in the FSA-ordered review. In each case, all the facts (including the experience of the claimant, the information provided and statements made at the time of sale, and the type of interest rate product sold) will have to be carefully considered, as well as the effectiveness of any contractual limitations on responsibility or liability.

Lawyer Contacts

For further information, please contact your principal Firm representative or the lawyer listed below. General email messages may be sent using our "Contact Us" form, which can be found at www.jonesday.com.

Christopher Braithwaite
London
+44.20.7039.5151
cbraithwaite@jonesday.com

John C. Ahern
London
+44.20.7039.5176
jahern@jonesday.com

Frédéric Gros
Paris
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Jayant W. Tambe
New York
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jtambe@jonesday.com

This Commentary is a publication of Jones Day. The contents are for general information purposes only and are intended to raise your awareness of certain issues (as at January 2013) under the laws of England and Wales. This Commentary is not comprehensive or a substitute for proper advice, which should always be taken for particular queries. It may not be quoted or referred to in any other publication or proceeding without the prior written consent of the Firm, to be given or withheld at its discretion. The mailing of this publication is not intended to create, and receipt of it does not constitute, a solicitor-client relationship.

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