Mis-Selling Derivatives: Milan Court Finds Four Global Banks Guilty

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By Lianna Brinded | December 20, 2012 1:39 AM EST

(Photo: Reuters)

An Italian court ruled that Deutsche Bank, JP Morgan, UBS and Depfa Bank are guilty of mis-selling the Milan City Council an interest rate swap that lost it millions of euros in payments, in what is believed to be a landmark criminal case in Europe.

The litigation, dubbed the 'Milan Derivatives Inquisition,' found the four banks guilty of "aggravated fraud for mis-selling derivatives to the city of Milan" and fined each institution €1m ($1.3m / £800,000) and ordered a "total seizure of €87m." It may also pave the way for other government entities to tackle losses and claims of being mis-led or mis-sold complex financial contracts.

In addition, nine bank employees were handed suspended jail sentences of up to eight months 

Deutsche Bank said it believed it had done nothing wrong and would appeal against the ruling.

JP Morgan told IBTimes UK: "JPMorgan is disappointed by the Judge's decision, both in respect to the individuals Antonia Creanza and Fulvio Molvetti, and J.P. Morgan. In J.P. Morgan's view, the evidence at trial demonstrated conclusively that the individuals behaved entirely honestly and appropriately throughout and that the transactions complied with Italian and English law.  We await the Judge's detailed reasons, which we shall review closely. It is both our and the individuals' intention to appeal, and we are confident that both JP Morgan and the individuals will be fully vindicated following an appeal.  We are, however, pleased with the acquittal of Francesco Rossi-Ferrini and Simone Rondelli."

A Depfa spokesperson told IBTimes UK that "we disagree with the court´s findings and we will appeal the judgement."

A UBS spokesperson told IBTimes UK: "UBS is disappointed by today's verdicts in respect of itself and two of its current employees and a former employee delivered in proceedings before the Criminal Court of Milan. UBS believes that its conduct and that of its employees was fully in compliance with the law. UBS and the individuals affected will vigorously pursue all avenues of appeal. UBS does not intend to comment further on this matter." 

The contested swap contract was sold to Milan City Council when it issued a €1.68bn 30-year bond in 2005, which prosecutors claimed to inflict much higher costs, paid for by taxpayers, than it had anticipated.

The lenders initially faced a possible fine of €1.5m each and an order to pay back €72m and prosecutor Alfredo Robledo had requested jail terms of up to 12 months for nine bankers and that the banks lied about the risks linked to the swap and falsely represented the deal as a way to reduce Milan's debt.

Elfo Butti, former head of the city council treasury said, during testimony at the trial, that he was "certainly not an expert in derivatives" and only had a basic knowledge of language the contract was written in; English.

However, the banks denied any wrongdoing and said they were transparent in their dealings as the authorities were fully informed about the risks linked to the contract and that the city of Milan, had experience handling complex operations, such as the 1998 listing of its municipal utility.

IRSAs are contracts between a bank and its customer where typically one side pays a floating, or variable, rate of interest and receives a fixed rate of interest payments in exchange.

They're used to hedge against extreme movements in market interest rates over a given period. Companies that have seen the value of these products move against them as rates fell during the recession, now owe banks crippling sums of money in interest payments each year.

However, in the case of Italy, 600 local governments bought derivative products worth €36bn, which have led to significant losses for the economy when the financial crisis spread across the world.

Bank of Italy data shows that Italian cities face nearly €4bn euros of potential losses from derivatives operations.

Earlier this year, the BBC led a special investigation into the impact these swap derivatives had on the Italian economy and it could exacerbate tough economic conditions as Sicily has already needed a €400m bailout from the federal government in Rome.

The BBC investigation revealed that several UK based banks have been accused of mis-selling interest rate swap derivatives between 1997 and 2007, when dozens of Italian cities and regions were sold €35bn worth of these products.

In the UK, eighteen members of the All-Parliamentary Party Group (APPG) revealed that the FSA will delay the results of the pilot redress scheme it has with Britain's biggest banks to deal with IRSA mis-selling to small businesses.

Under the Pilot Scheme, the FSA tasked the banks to investigate 30-50 cases of IRSAs sold to businesses, in order to determine whether mis-selling had occurred and if so, what terms of compensation they are owed.

After initially not setting a deadline, the FSA then aimed to deliver the results from the banks by the of this year, but this has now been moved to 31 January 2013.

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