In recent years, sell-side brokers covering the hitherto “boring” Standard Chartered could safely rest at ease, in sharp contrast to their peers grappling with the twists and turns of the credit crunch. In the first seven months of the year, this contrast seemingly intensified as the JPMorgan chief investment officesaga, Nomura insider-tradingscandal, Barclays’ Liborgateand HSBC’s money-laundering drama all served to rock global finance. Meanwhile, Standard Chartered boasted a strong – and virtuous – earnings cycle.
And then bang.
On Monday, the New York state financial regulator sprang a surprise summer raid on Standard Chartered’s sleepy analyst and investor community, alleging that the emerging markets-focused bank had hidden $250 billion of transactions with the Iranian government. In short, at first blush, Monday brought Standard Chartered’s modern age of innocence to an abrupt close, stunning the analyst community.
“When I read the document from the NY state regulator yesterday, I nearly fell off my chair. It’s totally unexpected,” says one broker, echoing the sentiments of his peers.
Late on Monday, Standard Chartered rebutted the bulk of the allegations, placing the value of Iran-related transactions that failed compliance at $14 million, rather than the $250 billion over the 10-year review period alleged by the regulator. (With Iran’s GDP estimated at around $500 billion, the $250 billion figure looks stunning.)
Standard Chartered’s robust rebuttal is in sharp contrast to HSBC’s admission of guilt in the money-laundering caseand paves the way for a showdown with New York authorities, which have also suggested that the bank might lose its banking licence in the state.
The jury is out on whether a gung-ho red-blooded regulator is guilty of over-reach - and anti-British bias - or whether Standard Chartered’s alleged malfeasance will be corroborated in a court of law.
But in the court of public opinion, damage has already been done, with Standard Chartered's shares plunging by up to a third from the Tuesday market open. The slew of unanswered questions, the wide range of possible regulatory and financial outcomes, and the investment mandates of US real-money investors – many of which preclude holdings of stocks under legal investigation – have triggered the losses. Analysts remain vexed.
“Standard Chartered thought they were doing the right thing by accommodating the investigators. But so did Barclays – before they were thrown in the mushroom cloud. In other words, Standard Chartered has been caught totally unawares and the outcome of this saga is totally unclear,” says Duncan Farr, bank specialist at Nomura. He adds: “‘Iran’, ‘fraud’ and ‘rogue institution’ are words I never thought I would hear in relation to Standard Chartered.”
A Hong Kong-based broker says: “This whole affair is a ‘he said-she said’ kind of saga. You can’t figure out what and who is right, or what the outcome will be. But for the New York authorities to come out so strongly, there is probably something in this.”
The strong wording of the allegations, the large sums said to be involved, and the threat of Standard Chartered losing its New York licence led Nomura to downgrade its recommendation on the bank to neutral, despite its recent earnings resilience, balance-sheet strength and geographical footprint.
Analysts are frustrated about the difficulty of communicating with Standard Chartered insiders, with many members of the executive board and investor relations team away on summer holiday.
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| Sands, Standard Chartered CEO |
Of particular concern is the allegation that the breaches stemmed from a “deceptive business plan” and that “most senior management” were involved in the process, raising the spectre of serious repercussions, including resignations at the highest level.
Standard Chartered will appear before the New York superintendent on August 15 to put forward its version of events and demonstrate why its licence to operate should not be revoked. Although analysts reckon it’s a remote possibility, Standard Chartered’s loss of US dollar clearing operations would torpedo its status as a global trade finance bank, given its role as the seventh-largest dollar-clearing house in the world. Around 15% of group revenues accrue from the financial institutions-related correspondent banking businesses and, in the first half of the year, its revenues from transaction banking grew 19%. The provision of dollar liquidity for its vanilla corporate banking activities – such as cash management and letters of credit – is also a key selling point for the brand and a driver of ancillary business, such as FX hedging and capital-raising, more generally.
In the dire event of losing its New York licence, one possibility for Standard Chartered to stay in the US dollar clearing business could be to take the unprecedented step of setting up shop in Charlotte, North Carolina, akin to Wachovia, while being barred in another state in the US, but this would be politically controversial. Nevertheless, analysts are doubtful it will get this far.
Vexing valuation
Nomura analysts say: “In the recent past, we have seen a number of other banks get involved in money-laundering issues, where these banks have not lost their licence. No two cases are similar, so it is difficult to make a straight read-across, but the lack of precedent is encouraging.” They add: “Given the seriousness of the allegations, STAN [Standard Chartered] may just choose to seek settlement with the regulator, in which case it would presumably have to pay a large but hopefully manageable fine and undertake business-model changes.”
Cormac Leech, analyst at Liberum Capital, reckons a fine of up to $1.5 billion is likely, citing earned revenues from the alleged fraudulent behaviour and HSBC’s $700 million provision for its US fine, for “merely weak anti-money-laundering controls” rather than the alleged “deliberate fraud” in the Standard Chartered case. The fine, loss of future revenues from Iran-related business and the regulatory risk premium combined could trigger a total earnings loss of $5.5 billion, he says, while affirming his buy call on the stock, citing the share price upside.
A robust defence in front of the regulator could stem the wave of forced selling and buttress Standard Chartered's stock price, analysts say. This would rest on whether the bank can present evidence about how breaches involved were on clearing-permissible transactions, rather than prohibited so-called U-turns, which are subject to specific Iran-related sanctions.
But Standard Chartered – which has aggressively promoted its whiter-than-whitecorporate culture in recent years – is unlikely to recover from the reputational damage anytime soon, analysts conclude.