The $2.5 billion of settlements reached in the London interbank offered rate rigging scandal are compelling banks to hand over information in the probe of a separate financial benchmark tied to interest-rate derivatives.
Barclays Plc, UBS AG and Royal Bank of Scotland Group Plc, the lenders fined in the Libor case, risk criminal prosecution in the U.S. under the settlement agreements if they’re seen as withholding evidence related to potential manipulation of the benchmark known as ISDAfix, according to a person with knowledge of the matter, who asked not to be identified because details of the investigation aren’t public.
“Those banks have to cooperate at the risk of blowing whatever agreements they have,” Peter Henning, a Wayne State University law professor in Detroit and a former U.S. Justice Department prosecutor, said in a telephone interview. “They are over a barrel.”
The Justice Department deferred prosecution against the three banks as part of the Libor-rigging settlements and the Commodity Futures Trading Commission, the primary investigator in the ISDAfix probe, will keep it “apprised of what’s going on,” Henning said. Barclays has turned over recorded telephone calls of its traders to the CFTC, Bloomberg News reported last week.
Kerrie Cohen, a spokeswoman for Barclays, declined to comment, as did Megan Stinson at UBS and Ed Canaday at RBS. Steve Adamske, a spokesman for the CFTC in Washington, also declined to comment.
Regulators are probing manipulation of key financial gauges in world markets on everything from interest rates to currencies to commodities.
Britain’s markets regulator is looking into the currency market, where $4.7 trillion is exchanged each day, after Bloomberg News reported in June that traders have manipulated key rates for more than a decade. The European Commission said in May it was investigating Royal Dutch Shell Plc, BP Plc and Statoil ASA, three of Europe’s biggest oil explorers, over potential manipulation of Brent crude, which helps set prices in the $3.4 trillion-a-year global oil market.
Regulators from Canada to Switzerland are investigating whether lenders rigged interest rates including Libor, a measure representing the cost at which banks say they can borrow from other lenders that serves as a global benchmark for more than $300 trillion of contracts from mortgages to student loans.
German financial regulator Bafin is reviewing whether the country’s banks may have participated in manipulating ISDAfix and so far hasn’t found any indication they were involved, Ben Fischer, a spokesman for the agency, said in an interview yesterday. The U.K. Financial Conduct Authority started an inquiry of how the rate is set in British pounds, Bloomberg News reported in April.
As part of the CFTC’s ISDAfix investigation, the regulator has interviewed more than a dozen traders and brokers since May at Barclays and ICAP Plc, both based in London, and New York-based Citigroup Inc., and plans to talk with people at 13 other banks as it sifts through 1 million e-mails, Bloomberg News reported on Aug. 2.
“The substance of white-collar crime is getting your hands on data,” John Coffee, a law professor who specializes in corporate governance at Columbia Law School in New York, said in a telephone interview. “If you can get your hands on 1 million e-mails or phone calls, you will likely find something interesting.”
The correspondence shows that traders at Wall Street banks instructed ICAP brokers in Jersey City, New Jersey, to buy or sell as many interest-rate swaps as necessary to move the benchmark -- set each day at 11 a.m. in New York -- to a predetermined level, the person said.
By rigging the measure, the banks stood to profit on separate derivatives trades known as swaptions, or options on rate swaps, that they had with clients who were seeking to hedge against moves in interest rates. Banks sought to change the value of the swaps because the ISDAfix rate sets swaptions prices, the person said.
Swaptions, which give the holder the right to swap a fixed-for a floating-rate obligation at some future point at a predetermined level, are used by firms from Pacific Investment Management Co., which runs the world’s biggest mutual fund, to the manager of Dutch postal operator PostNL NV’s pension, according to regulatory filings.
PostNL’s pension earned 6.4 percent on its interest-rate swaps and swaptions in 2010, according to its annual report. Representatives from the Dutch company and Pimco didn’t immediately respond to requests for comment.
Banks set ISDAfix for 10-year rate swaps at 2.807 percent today, up from 1.785 percent at year-end, according to ICAP data.
In their five-year settlement agreements with the CFTC, Barclays, RBS, and UBS said they would “cooperate fully and expeditiously with the commission” and any other governmental agency related to Libor or “any investigation, civil litigation, or administrative matter related to the subject matter of this action or any current or future commission investigation.”
U.S. investigators used such sweeping language to aid probes of other benchmarks, Henning said.
‘Bitten the Bullet’
“They knew this was coming when they settled Libor,” he said. “It’s not like they stumbled across this. That’s why they made it broad.”
Cooperation clauses in deferred prosecution agreements allow banks to order their employees to talk with investigators or face being fired, according to Coffee at Columbia.
“If you breach your deferred prosecution agreement, the government can indict you” and seek greater damages than it received under the settlements, he said. The three firms have already “bitten the bullet,” he said. “They don’t want a second round of penalties.”
Investigators will need to produce e-mails that clearly show manipulative intent by traders, as they did in the Libor probe, said Jack Chen, a financial consultant in New York who has written about the swaps benchmark and Libor for SFC Associates, a financial consulting firm specializing in litigation matters. Otherwise, the banks may be able to defend the actions as typical trading activities, he said.
RBS said in a regulatory filing last week that it “continues to cooperate” with inquiries of its “submissions, communications and procedures relating to the setting of a number of trading rates,” including ISDAfix.
Prior to the CFTC investigation, which began last year, the lenders that contributed to ISDAfix were Bank of America Corp., Barclays, BNP Paribas SA, Citigroup, Credit Suisse Group AG, Deutsche Bank AG, Goldman Sachs Group Inc., HSBC Holdings Plc, JPMorgan Chase & Co., Mizuho Financial Group Inc., Morgan Stanley, Nomura Holdings Inc., Royal Bank of Scotland, UBS and Wells Fargo & Co.
ISDAfix rates are distributed by Thomson Reuters, Telekurs and Bloomberg LP, the parent of Bloomberg News, according to ISDA’s website. Bloomberg competes with ICAP in some businesses, including foreign-exchange and swaps trading.
“The real risk to these banks is private lawsuits” from asset managers and pension funds, Henning said. “This isn’t going up against mom and pop,” he said, “and that’s scary for the banks if there was manipulation.”