FMLC highlights that a special insolvency regime for investment banks should not be introduced.
The paper focuses specifically on issues concerning the return of client monies and assets in the event of the commencement of insolvency proceedings of an investment bank. Client assets, as referred to in this paper, are the financial instruments that belong to the clients of an investment firm and are held on their behalf by the firm in the course of its investment business. Similarly, client money is money that a firm holds for or on behalf of a client in the course of its investment business.
The FMLC’s principal recommendations are as follows:
(a) Improved transparency and reporting would better enable investors to assess the extent to which their assets are secure, if they are informed of the jurisdictions of relevant sub-custodians, whether assets are held in an account segregated from the firm’s own assets and whether client omnibus or client specific accounts are utilised, and the aggregate value of assets in respect of which a right of use has been exercised.
(b) FMLC proposes to consider what positive measures and/or legal sanctions may be appropriate to keep a failed bank’s back office systems functioning after an insolvency, including measures to impose sanctions to deter the wilful destruction of trading records or shutting down of computer systems and the withholding of key information (such as passwords and system codes) in the immediate aftermath of a bank’s collapse.
(c) FMLC is of the view that ensuring that hedge funds negotiate appropriate contracts with their brokers and custodians is something that is best dealt with by education initiatives through trade associations such as the Alternative Investment Management Association and the Hedge Fund Standards Board. FMLC suggests that to interfere with one practice without considering similar practices in the broader commercial context might introduce uncertainty and, potentially, distort the markets.
(d) In order to address situations where a sub-custodian is entitled to refuse to release client assets until the indebtedness of the investment firm to the sub-custodian is discharged, there may be a case for the Financial Services Authority (the “FSA”) to require investment firms to ensure that subcustodians waive any rights of lien, set-off or security interest over assets recorded in a client account with respect to liabilities owed by the investment firm in a principal capacity.
(e) A statutory cut-off date should be introduced in respect of claims for client assets held by an insolvent investment bank, provided that investors are given sufficient time to determine the existence of any claims they may have.
(f) There may be a case for introducing a limited extension to the scope of the defence of a director of an investment bank against wrongful trading and disqualification as a director in circumstances where he has acted with a view to achieving an orderly handover of the bank to an administrator and minimising market disruption in the interests of creditors as a whole.
(g) It should be considered whether administrators ought to be provided with further protection through legislation since, under insolvency law as it stands, there may be incentives for administrators to seek to secure a high degree of confidence before releasing client assets.
(h) A special insolvency regime for investment banks should not be introduced. This is largely because it is improbable that any expertise as to the operation of the regime would be able to develop before the regime is used for the first time and, given that this is unlikely to be for a number of years, the legal landscape and insolvency legislation may have evolved to the extent that the regime is no longer fit for purpose.
© FMLC - Financial Markets Law Committee
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