Examination of Witnesses (Questions 200-219)
SIR CALLUM
MCCARTHY
AND MR
JOHN TINER
24 OCTOBER 2006
Q200 Jim Cousins: Do forgive me,
you have just said something entirely different. You have just
said that it would change the way you take enforcement action,
and that the actions, both in the Legal & General case
and the Plumber case, would not have been taken if these
new risk assessment procedures had been in force.
Sir Callum McCarthy: No. With
respect, I said—and for the avoidance of doubt, let it be
clear—that we would not have proceeded in exactly the way
that we did proceed in either of those cases. I am not sure whether
we would have taken either of those cases forward, but, irrespective
of that—
Q201 Jim Cousins: You have now told
the Committee three different things. You have said that the review
of enforcement procedures would not have led to those two cases
being brought; that they would have led to those two cases being
brought; and that they might not have led to those two cases being
brought.
Sir Callum McCarthy: May I be
clear: we have made a series of changes—
Q202 Jim Cousins: Which of those
is it?
Sir Callum McCarthy: I am about
to explain, if I may have an opportunity. We have made a series
of changes already to the enforcement procedures. Second, because
we now have a definition from the tribunal of what they regard
as reasonableness on behalf of the FSA, we will of course take
account of that in the way that we adopt our procedures going
forward. Overall, I do not expect us to have either an increase
or a decrease in the number of enforcement activities or the emphasis
that we place upon enforcement, as a result of either of those
changes.
Q203 Jim Cousins: Do any of these
enforcement actions involve board approval?
Sir Callum McCarthy: Very rarely,
I think is the answer.
Q204 Jim Cousins: We have talked
about the culture in the insurance industry earlier in our discussion.
Is not the enforcement culture of the FSA going to be changed
by the outcome of these two cases?
Sir Callum McCarthy: I am not
sure what you mean by enforcement culture.
Q205 Jim Cousins: The issues to which
you have just been drawing the attention of the Committee.
Sir Callum McCarthy: One of the
things that we have made clear is that we will not adopt a policy
of only pursuing enforcement cases of which we have 100% probability
of succeeding, and that will not change.
Q206 Jim Cousins: What probability
of success are you going to use?
Sir Callum McCarthy: It is a balance,
on any case, and it is not based on a simple arithmetic: "We
will do it if it is 98 but not if it is 96." I am sorry,
but it is more judgmental set of issues.
Q207 Jim Cousins: It is quite normal
for enforcement authorities to have an internal assessment of
the likelihood of success before bringing a case. That is perfectly
normal; no one is going to be surprised by that. You have told
the Committee that it is not going to be 100% success. That leaves
us, if you will forgive me for saying so, really nowhere. What
are the internal guidelines you are using to test whether an enforcement
action will be brought?
Sir Callum McCarthy: I would say
that, broadly, they are the requirements that we have under the
law in relation to criminal cases: a balance of probability—which
is the same in those criminal cases. In other cases, it involves
a series of judgments. But the only point I am making is that
I believe it would be wrong for the FSA to confine its enforcement
actions to those where we are completely sure that we will succeed,
because, if we were to do that, I think it would be necessarily
and improperly lax.
Q208 Jim Cousins: In your annual
report you somewhere say that there were 166 suspicious trading
reports that you received. In how many of those was there enforcement
action?
Sir Callum McCarthy: I am sorry...
Mr Tiner: I do not know.
Q209 Jim Cousins: You have told the
Committee that there was one successful action for insider dealing.
The Committee heard earlier that one of your own directors said
that 28.9% takeover announcements resulted in a potentially significant
sign that there was use of insider information. You have told
us of one successful prosecution. What is the baseline? What is
28.9% of the takeover announcement? What is that figure?
Sir Callum McCarthy: The 28.9%
are the instances where there is a public announcement in advance
of which there is a significant share-price movement.
Q210 Jim Cousins: How many cases
are we talking about? How many cases are represented by that 28.9%?
Sir Callum McCarthy: I am sorry,
I cannot remember what the number is. I will give you a note telling
you that.[6]
Q211 Jim Cousins: But the successful
prosecutions out of that number were one.
Sir Callum McCarthy: No.
Q212 Jim Cousins: Successful actions.
Sir Callum McCarthy: No, there
was more than one instance, but, as I said earlier in evidence,
one of the continuing problems that exists in this country and
other countries is bringing successful prosecutions against the
standard of evidence that we have to bring for insider dealing.
That is a real problem which we are determined to attack.
Q213 Jim Cousins: Have you made representations
about that to the Government?
Sir Callum McCarthy: No, is the
answer.
Q214 Chairman: I will tell you what,
Sir Callum, because we have to move on, why do you not write us
a nice letter to explain all that stuff to us so that we can try
to pursue it here.
Sir Callum McCarthy: I would be
delighted to do so.
Q215 Jim Cousins: Let us be clear
about it: there is a problem here and you have not drawn it to
the attention of the Government.
Sir Callum McCarthy: No, I would
not say that.
Q216 Jim Cousins: You just have.
Sir Callum McCarthy: It is a problem
that we had discussed with government—
Chairman: We are happy that you are going
to write to us, Sir Callum.
Q217 Mr Newmark: My question is for
John and it is to do with these split capital trust schemes, which,
with certain people, is unfortunately still a running sore, so
perhaps I can be very specific in my question. I appreciate this
was covered last year but unfortunately I was not on the Committee.
I have seen the answers and I also appreciate a letter I received
from your head of department of litigation and legal review, which
was a very thorough letter on this issue. A particular phrase
that was written in the letter, which was how the settlement was
reached, was, "As we said in our statement of 24 December
2004, our decision to settle on the basis we did was driven by
a view that this settlement was in the best interests of investors."
It does not say some investors; it says investors—which
I am assuming was supposed to cover all investors. It goes on:
"Our main aims were to seek to achieve a settlement which
would obtain a reasonable amount of compensation for retail investors"—and,
again, it does not say some retail investors; it says retail—so
I am assuming there was some process of trying to be equitable
to all people who were involved in these schemes. I have had a
considerable amount of correspondence from a Mr Roland Fernsby
and others who were ordinary income shareholders. From the information
I have read, it seems that, while the zeros were compensated,
unfortunately the ordinary income shareholders were not at all,
so it looks like there was a complete bias to one group of shareholders.
I would like to ask John as to why this decision was equitable
and fair, and if he would explain to me in very simple language
why the ordinary income shareholders really received nothing.
Mr Tiner: There was a limited
pool of money as a result of the settlement on Christmas Eve 2004.
We felt that the class of investors who were most deserving of
that money were the people who went into it expecting that they
had the lowest degree of risk. The nature of split capital investment
trusts was that the zeros were the lowest risk category; the income
shareholders were next; and then there were the capital investors,
who were really taking a bit of a punt. There are a couple of
points that differentiated the income shareholders and the zeros.
Up to that point—in fact, up to any point but maturity—the
zeros got nothing. They were getting no income at all—all
of their pay-back of capital and any subsequent income was in
the capital repaid on maturity—whereas the income shareholders
had received dividends during the course, and in some cases quite
reasonable dividends—so they had already received something
which the zeros had not. That, combined with the fact that the
zeros had been led to believe (in a way which I think income shareholders
had not) that they were kind of putting their money into a deposit
account—there were some adverts that compared them to building
society deposits—whereas income shareholders went in more
on the basis that they were buying sort of ordinary shares in
a company, led us to believe that this limited pot of money should
be divided among the zeros alone. There was also, of course, a
backstop then for the income shareholders—and, indeed, for
the zero shareholders that did not want to take the settlement—which
was the Ombudsman. If they felt that they had been misled into
the sale, there was always the compensation system of the Ombudsman
waiting to help them if that was necessary. That was the rationale.
Q218 Mr Newmark: And that is sort
of what I have read. This is what surprised me with the way the
pot was divvied up: there were clearly a lot of people who were
in the zeros but a much smaller group in the ordinaries and income
in terms of amount that was at risk. Those sort of people, it
is my understanding—and please correct me if I am wrong
on this—were people who did not want to sort of wadge away
zeros hoping that they would get the capital at the end of the
bag; they were more the widows and orphans, if you will, or the
pensioners, who wanted to get the income from the income shares.
In many ways they were perhaps some of the more vulnerable investors,
who relied on that income, and the reason why they feel aggrieved
is because when they were sold to go into the income shares, as
opposed to the zeros, it was because probably a lot of them were
older and were sold on the idea that they were going to get some
sort of steady stream of income. I think that is why a lot of
that sort of investor feels hurt and aggrieved. Is that a fair
analysis?
Mr Tiner: I am quite sure there
are a number of ordinary shareholders who are in that category,
but, if they were advised to take those and they feel as though
they were inappropriately advised, by taking the case to the Ombudsman
and succeeding with the Ombudsman they would get a much higher
payout than if they received a part of the settlement, which would
then have to be divided by a larger population, and they would
get—because this is the Ombudsman's normal way—interest
on the capital settlement as well. That has always been available
to them. We just felt that in terms of the actual settlement,
given that for all the investors this was a full and final settlement—you
could not take the money and then go to the Ombudsman—we
were better keeping it to the zeros, to let those people who were
genuinely badly treated in the income shareholder category to
take their case to the Ombudsman.
Q219 Mr Newmark: You do not think,
given the relatively small size of the income category and who
they were, that, in having a settlement, there should have been
any consideration for those income people? I still do not understand
why, in a settlement, you only settle with one group of investors.
This is a question I have been asked to push you a bit with. Why,
in trying to come to a settlement in a case which involves a series
of classes of investments, did only one group get anything out
of it?
Mr Tiner: From the settlement?
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