UK's Financial Services Authority: Coutts Fined £6.3m For Failings Relating To Its Sale Of An AIG Fund

The Financial Services Authority (FSA) has fined Coutts & Company (Coutts) £6.3m for failings in connection with the sale of an AIG fund (the Fund).

Coutts has also agreed to carry out a past business review, overseen by an independent third party and will compensate all customers who have suffered a loss as a result of its failings.

Between 3 December 2003 and 15 September 2008 Coutts sold the Fund to 427 high net worth customers, with investments totalling £1.45 billion. The Fund invested in financial and money market instruments but unlike a standard money market fund, it sought to deliver an enhanced return by investing a material proportion of the Fund’s assets in asset backed securities and floating rate notes.

During the financial crisis of 2007 and 2008, the market values of some of the assets in the Fund fell below their book values. On 15 September 2008 Lehman Brothers applied for Chapter 11 bankruptcy protection in the US and AIG’s share price then fell sharply and suddenly. A large number of investors sought to withdraw their investments and there was a run on the Fund. As a result the Fund was suspended with customers prevented from immediately withdrawing all of their investment 5.

There were a number of serious failings in the way the Fund was sold. In particular, Coutts:

generally informed customers that the Fund was a cash fund which invested in money market instruments and could be seen as an alternative to a bank or building society account. In fact, a significant proportion of the Fund’s assets did not meet this description and customers may have misunderstood the true position about the risks they were assuming;
failed to have an adequate sales process in place for the Fund. Advisers were given inadequate training about the risks and features of the Fund. Nor did Coutts’ sales documentation accurately or adequately describe the Fund and its risks;
recommended the Fund to some customers even though it may have exposed them to more capital risk than they appeared willing to accept;
many customers were advised to invest a large proportion of their overall assets in the Fund and there is a risk that their investments were not appropriately diversified;
failed to respond appropriately to the changing market conditions in late 2007 and during 2008 when there was a greater risk of the Fund suspending redemptions and of customers suffering a loss. Despite having been aware of these issues affecting the Fund, Coutts failed to make the necessary changes to the way in which it sold the Fund, and did not ensure that advisers who sought to reassure existing customers inquiring about their investment in the Fund provided a fair explanation of the risks;
Coutts failed to properly deal with questions raised from December 2007 around its past sales of the Fund, including about whether it had explained the Fund’s risks to customers adequately and whether their investments were appropriately diversified; and
failed to undertake an effective compliance review of its sales of the Fund after the Fund was suspended and customers complained. The review failed to adequately address suitability and disclosure issues and was not completed in a timely manner.

As a consequence of the above failings, Coutts’ customers were exposed to an unacceptable risk of an unsuitable sale of the Fund over the sales period in breach of FSA Principle 9.

Tracey McDermott, acting director of enforcement and financial crime, said:

“Firms giving investment advice must ensure they make suitable recommendations. It is imperative that firms also ensure that clients understand the nature of the product they are buying and the risks it involves. Our recent ‘Dear CEO’ letter to the wealth management industry highlighted the significant, widespread failings in this area. We will continue to take action where we find evidence that firms are giving unsuitable advice to customers.

It is also disappointing that Coutts failed to reflect properly upon the impact of changing market conditions and what that meant for the advice they had given, and were giving, to their customers."

Coutts agreed to settle at an early stage entitling it to a 30% discount on its fine. Were it not for this discount, the FSA would have imposed a financial penalty of £9 million on Coutts.

Background

The Final Notice for Coutts is available on the FSA website.
On 14 June 2011, the FSA sent a Dear CEO letter to the wealth management industry. The letter followed a review of the suitability of client portfolios in a sample of firms in the sector. As part of the review, the FSA identified significant, widespread failings. The FSA considers suitability a key area of risk in the wealth management industry and firms in this sector are seeing, and will continue to see, an ongoing and increasing focus on these issues.
The AIG Life Premier Access Bond and Premier Bond, Enhanced Variable Rate Fund was launched in December 2003 and was supplied by American Life Insurance Company (ALICO), a UK branch of a wholly owned subsidiary of American International Group (AIG). It was invested in financial and money market instruments, including certificates of deposit, bank deposits and commercial paper. However, unlike a standard money market fund, it sought to deliver an enhanced return by investing a material proportion of the Fund’s assets in asset backed securities and floating rate notes. Some of these assets had terms to maturity of between 3 and 5 years.
During the financial crisis of 2007 and 2008, the market values of some of the assets in the Fund fell below their book values. On 15 September 2008 Lehman Brothers applied for Chapter 11 bankruptcy protection in the US and AIG’s share price then fell sharply and suddenly. A large number of investors sought to withdraw their investments and there was a run on the Fund. As a result ALICO suspended the Fund.
At the time of the Fund’s suspension 247 Coutts customers had £748 million invested in the Fund. These customers were subsequently permitted to withdraw only 50% of the full value of their investment (capital plus accrued interest). On 14 December 2008 customers were given the opportunity to withdraw the remaining 50% but for less than its value on that date (a 13.5% reduction in the value of their entire accrued investment). However, customers were given the option of transferring their remaining 50% into a Protected Recovery Fund (PRF) which guaranteed that customers would get back this proportion of their investment in full if they kept their money in the PRF until 1 July 2012. The vast majority of customers chose the PRF option which meant they have not earned any investment return on this proportion of their investment since 14 December 2008. Eight customers chose not to enter the PRF and suffered a 13.5% reduction in the value of their entire investment as at 14 December 2008.
Principle 9 is set out in the FSA’s Handbook and states: A firm must take reasonable care to ensure the suitability of its advice and discretionary decisions for any customer who is entitled to rely upon its judgment.
The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000: maintaining market confidence; securing the appropriate degree of protection for consumers; fighting financial crime; and contributing to the protection and enhancement of the stability of the UK financial system.