With an innovative twist on the old “Man bites dog” story, I hear that Co-Op Bank bondholders have opposed the bank’s plans to take more money from them, and instead agreed to convert their secured loans into the ailing bank’s shares.
But when you see the story through the red tinted glasses of some of the media, you could be forgiven for thinking that evil hedge funds are raping a national institution. As Robert Peston of the BBC put it this morning: “Co-op Bank story in brief: Co-op Group duffed up by a pair of hedge funds.” So where does the truth really lie, and why is the Co-Op in this unenviable position?
The Co-Op Bank’s current owners, the Co-Op Group, have treated it as a piggy bank for left wing causes. Mark Wallace of Conservative Home points out that it gave credit cards to around 10,000 Labour Party members, and it bankrolls the Party itself with a £3.9 million overdraft. As we know from the last Labour government, and current Labour plans, they have a consistent policy of taking out un-sustainable and un-repayable debt, so they should hardly be seen as responsible borrowers.
Hilariously, the Co-Op Group hopes that the bank’s co-operative ethos can be protected. Is that the same ethos that has led to around £374 million of PPI mis-selling costs and breaching the Consumer Credit Act?
For these reasons, as well as increased capital requirements and other disastrous management decisions, the fact is that Co-Op Bank is broke and cannot continue without recapitalising. So what is actually going on?
You can think of the bank’s ownership structure like a house with a mortgage. The home owners (bank shareholders) have taken out a mortgage (borrowed from bond investors), but the owners invited their friends round for a big party and there was a lot of damage, so the house needs expensive repairs (bad lending & buying Britannia Building Society). And they were fined and told to pay compensation for running a business selling footballs to one-legged people (PPI mis-selling).
In any normal situation, you’d expect the owners to be forced to sell the house if they couldn’t afford to repair it and pay the fine and compensation. The bank might foreclose and sell the house itself if the owners couldn’t pay. And in any case, the mortgage holder has a right to the first proceeds of the sale.
But in this case, the Co-Op Group suggested that the Co-Op Bank bondholders, led by a couple of US hedge funds, should actually lend them more. The bondholders decided that throwing good money after bad was not such a good idea, and asked for a compromise, that their bonds should be converted into shares, which would mean the bank no longer has to pay them back, and they take a majority of the shares of the (effectively bankrupt) Co-Op Bank. If this doesn’t happen, then the Bank of England may be obliged to take control and do it anyway.
So the bond holders and hedge funds are acting quite reasonably, and any finger pointing by the Co-Op, Labour or the BBC is just smoke and mirrors to distract from the failures of Co-Op management and their attempt to swindle the bondholders.