Welcome to the inaugural posting of the Trans-Atlantic Litigator. My name is Steven Friel. With my colleagues from the London and US offices of Brown Rudnick, we  handle some of the most cutting-edge cases of interest to the banking and financial community. Unlike many 'magic circle' and other major international firms, Brown Rudnick often act against the big banks, and regularly act in David v Goliath situations. The aim of the blog is to offer a claimant's perspective on developments in the trans-Atlantic market in complex and high-value financial litigation.

The Big Bang Theory

The FSA has recently confirmed what those of us who often litigate against banks have known for years; the UK’s biggest banks have mis-sold thousands of interest rate hedging products to small and medium size businesses in the UK and overseas. From experience, I know that many family-run businesses have been financially crippled by these products.

Whilst I’m delighted that the FSA has (finally!) decided to take action, what concerns me most as a litigator are the failings in the English litigation landscape that have become exposed as a result of the FSA’s findings.
Picture the following scenario, which might be considered an aggregate of many different cases: A thriving, family run business (let’s say it’s a chain of drycleaners) has banked with a high street bank for years. The paterfamilias has known his local branch manager since school days, and they have had a long and successful business association. They trust one another. In around 2006, Mr. Branch Manager introduces Mr. Paterfamilias to some colleagues from Canary Wharf. They explain to Mr. Paterfamilias that if interest rates rise significantly, the business would have difficulty keeping up repayments on it loans. They explain that the business would be protected in those circumstances by an interest rate swap. Mr. Branch Manager says that he doesn’t really understand these swaps, but the boys from Canary Wharf are very convincing. Mr. Paterfamilias is duly convinced and agrees to enter into the swap.

What was not properly explained to Mr. Paterfamilias is that if interest rates fall instead of rise, the business could potentially be significantly ‘out of the money’. Further, Mr. Paterfamilias does not understand that the swap has a life independent of his loans, i.e. the business would be obliged to continuing servicing the swap long after the loan has been repaid. Nor does Mr. Paterfamilias  understand that the swap is governed by hundreds of pages of dense legal language. The four page document that he has been given looks fairly innocuous, but he doesn’t realise (why would he?!) that the reference to the ISDA Master Agreement brings with it a Trojan Horse of contractual complexity.

The ink is not long dry on the swap when interest rates hit the floor, and the business becomes crippled by payment obligations under the swap, which look set to last for many years.Given what the FSA has found (“serious failings”, “poor sales practices” exacerbated by “rewards and incentive schemes”, “poor disclosure”), the man on the Clapham Omnibus might reasonably expect that Mr. Paterfamilias would be able to recover through relatively straightforward court action. Unfortunately not. In cases like these, the odds are stacked against SMEs for a number of reasons.

First, the major UK banks have shown time and time again that they will litigate their opponents into the ground. The banks will use their vast resources to ensure that most claims against them do not see the light of day.
Second, we don’t have any workable class action procedure in this country. Although some tried, it proved impossible for groups of SMEs affected by mis-selling to band together in litigation.

Finally, we have one of the most bank-friendly judiciaries in the developed world. The High Court in particular has on many occasions repeated the ‘caveat emptor’ line of reasoning with respect to businesses that buy complex financial product, without properly distinguishing the type of situation faced by Mr. Paterfamilas. The ‘big bang’ of financial deregulation appears to have gone unnoticed in the Royal Courts of Justice. The casino-style practices of Canary Wharf made their way to the high street, but it probably remained the position of English law that if you bought a casino product, you were to be treated like any other gambler in the casino, even if you had no idea what you were getting into.

In short, well done the FSA for finally getting to grips with this issue, but their review and redress procedure does not go far enough. We need the litigation landscape to step up to the mark.