Financial Services and Markets Appendices to the Minutes of Evidence


Supplementary Memorandum by Justice in Financial Services


  Listening to the discussions on the immunity that it is proposed to give to the FSA, it was clear that none of the witnesses had given the detailed consideration of the subject that comes with preparing actual cases.

  As a result, I suspect the Committee has been misled on three very important points.

  The first is the difficulty that anybody bringing a case against the FSA will face in persuading a Court to make a finding or award compensation against the regulator. This includes the European Court on Human Rights which allows competent authorities considerable latitude in carrying out their tasks. There is considerable case law on planning applications to support this point. In practical terms, it will be very difficult to persuade a Court to act unless there is clear evidence that the FSA has displayed significant recklessness or carelessness or otherwise behaved quite disproportionately or unreasonably. Anyone who brings a case without showing this will have to pay the FSA's costs.

  This is illustrated in the case of Melton Medes v SIB, in which case the Judge awarded indemnity costs to SIB. (It must be said that the plaintiffs in Melton Medes do not seem to have had the sort of case that would win general sympathy, in contrast to the position of our founder and others forced into confessing to crimes they had not committed.) Indemnity costs are usually only awarded rarely, against misbehaving litigants. In this case, the Judge appears to have been motivated by the lack of substantial merits in the plaintiff's case.

  It also lies behind Lord Denning's remark—quoted by the chairman—that public bodies should not have to look over their shoulders. The Committee has, I believe, been misled into thinking that the immunity is essential to protect a regulator doing its job.

  The second point on which the Committee has been misled relates to confidentiality. The chairman suggested that the immunity might not apply to actions, for instance by somebody adversely affected by "leaks". Melton Medes was an action following a "leak" and the Judge held that damages were not available for breach of the statutory duty to maintain confidence. If damages are to be available to victims of "leaks" then there will have to be specific provision in the FSMB making damages available.

  The third—and most important—point was not raised at all. The proposed immunity will apply not just to companies. It will also apply to consumers.

  There are very real reasons for allowing consumers to take action against the FSA. The FSA will have the power both to award compensation itself and to delay the Ombudsman from hearing cases whilst it considers action itself. It is unlikely that the Ombudsman will award compensation when the FSA does not. This opens up the real possibility that the FSA will make errors that damage consumers.

  The FSA may also damage consumers by taking action against their advisers and either requiring or sanctioning a transfer of adviser that damages consumer interests. Again, the consumer will have no redress.

  These are not remote possibilities. There are two high profile cases in which the SIB made errors that either threatened or actually did damage consumers. There are other cases where regulators made mistakes harmful to consumers.


  The SIB became involved in the dispute between the WBBS and action groups of elderly investors whose home had been put at risk by borrowing from the WBBS on usurious terms to finance investments that had gone terribly wrong.

  Ultimately, this case was resolved in the High Court, with damages of around £38 million being awarded against the WBBS. The High Court found that the WBBS had entered into an unlawful arrangement with the investment adviser responsible and was thus liable for losses caused.

  However, at an earlier stage of the proceedings, the SIB had "negotiated" a package with the WBBS which it commended to the elderly investors. This package was much less favourable than the compensation awarded by the High Court.

  Plainly, investors who accepted the package recommended by the SIB would not have obtained the compensation due in law. These investors, elderly people with low incomes, are universally regarded as meritorious claimants, the very people that the SIB was meant to protect.

  It seems to us very clear that an immunity would protect the FSA from claims in the High Court should it make a similar, massive error. (It should be noted that immunity is not the only issue—see below.)


  The Knight Williams affair started with the SIB ignoring the advice of the regulator directly involved, FIMBRA, and assuming that Knight Williams and Company Limited had caused clients to suffer heavy losses. In early 1994, when the SIB became involved, it plainly believed that these losses ran into many millions. It now turns out, following investigation by the ICS, that the actual losses were on a far smaller scale that SIB envisaged. It is possible that litigation will eventually establish that losses were below £500,000. Given the size of the Knight Williams client base, this is not a substantial sum and is close to compensation that the firm wanted to offer but was prevented from offering by SIB. Even the sum paid by the ICS under heavy political pressure from Mrs Angela Knight, a former minister, is well within what the firm could have afforded in 1994.

  However, instead of encouraging the use of the proper complaints procedure, SIB forced the firm to establish a special complaints handling procedure. In November 1994 Mr Jeremy Orme, SIB's then head of enforcement, urged all unhappy investors to make use of the procedure and have confidence in the SIB.

  The result was disastrous. Nobody "who had confidence in the SIB" received compensation until 1997. Some have only just received compensation from the ICS—over four years after SIB urged them to trust it.

  The real victims were not unhappy investors, numbering at that point around 400. Approaching 20,000 investors have incurred losses as a result of the SIB putting Knight Williams and Company Limited into liquidation. These are the investors who had no complaints but, because SIB had destroyed their firm, had to transfer the management of their funds.

  The transfer was overseen by SIB: Mr Orme was present in person when the arrangements to transfer management were negotiated and concluded. So there can be no doubt of the SIB's close involvement in every step of this affair.

  The 20,000 investors whose investments were transferred suffered losses for the following reason. All these investors had a contract with Knight Williams and Company Limited which provided for discretionary fund management. Knight Williams and Company Limited was able and indeed did use the discretion to alter exposures to particular markets. The investments were structured so that a reduction in exposure to, say, Japan and an increase in exposure to, say, America did not require the investors to act and did not expose them to any liability for CGT or income tax.

  Under the transfer arrangements made with the full knowledge of SIB, the investments managed by Knight Williams were replaced by investments managed by another firm. But those investments which were not in a PEP were split into separate holdings—so much in the UK, so much in America, so much in Japan, so much in the Far East. Altering the balance of the investments required investors to act and exposed them to CGT. Those investments in PEPs remained in a structure that allowed adjustment of the exposures.

  As a result of work done by the ICS, we know that the investments in PEPs performed substantially better than the portfolios which were not in PEPs. As the same fund management firm handled both sets of investments and as the initial exposures of the PEP and non-PEP investments were similar, the under performance of the non-PEP element seems entirely due to investors being locked into Japan and the Far East as a result of arrangements approved by the SIB and only made necessary by the SIB. The losses that have resulted by the SIB breaking up the discretionary management arrangement would appear to be in the order of £90 million—over £4,000 for each of 20,000 elderly investors.

  There are, we believe, other cases where investors have suffered losses as a result of regulators deciding to close firms, but none, we think, on this scale.


  The losses incurred by investors in Knight Williams as a result of what can at best be regarded as gross incompetence on the part of a senior employee of the SIB must give rise to doubt as to whether the FSA should enjoy an extensive immunity from action. The FSA will have far greater powers to intervene than the SIB does. The risk of errors must be higher.

  The Knight Williams case has been the subject of detailed work by a QC whose opinion has been made available to the Clerks to the Joint Committee. This opinion shows that there are complex legal issues that need to be considered, relating not just to the immunity but to the duties that are to be laid on the FSA and its legal liabilities.

  Although it may involve considerable further work, we believe that the interests of consumers cannot be adequately protected unless the FSA is made liable for the consequences of reckless, thoughtless or incompetent actions that cause heavy losses for consumers. We have examined advice by a QC on the scope for consumers to form action groups and use the Courts and are entirely convinced that, were Parliament to allow consumers to bring actions against the FSA in circumstances in which its actions had caused losses, then this would be a realistic remedy.

  We urge the Committee to consider this problem most carefully. As the Committee has been told, firms (and individuals) may well be able to overturn a statutory immunity by application to the European Court of Human Rights as it appears to contravene Article 6 of the Convention (which states that everyone has a right to a fair trial). However, unless the Bill is carefully drafted to give consumers adequate rights against a blundering FSA, they may well be unable to make an application to Strasbourg.

13 April 1999

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