Two years ago, Australia's margin lending sector was thriving. It was a sector in vogue, a sector riding high atop a strong market wave. Today, it is a sector in turmoil.
Since December 2008, Australia's margin lending industry has been hit hard. The now infamous fall from grace of financial advisory firm Storm Financial has left the industry shaken, prompting many to abandon ship and forcing others to rebuild.
Australia's banking sector has spent much of the past year and a half distancing itself from the fallout of Storm.
Commonwealth Bank of Australia (CBA), Storm's major margin lending business relationship, has taken the biggest beating.
In the past 12 months, the bank's chief, Ralph Norris, has been forced to front numerous inquiries in an attempt to unearth the cause of Storm's collapse and in turn the millions of dollars in investor losses through its gearing division, Colonial Geared Investments (CGI).
CBA has also faced sacking rumours, with a number of former CBA and CGI staff speaking out over being used as scapegoats in regard to Storm.
The bank has also faced much scrutiny at a legal level, with former Storm Financial founders mounting a case against CBA, seeking more than $17 million in compensation.
Former Storm investors have also cried foul over rumours CBA established its Storm resolution scheme in a bid to silence investors by suggesting they waive their legal rights.
Yet, amid the innuendo, CBA is said to be close to finalising details of the scheme.
It is understood that earlier this month representatives of litigation firm Slater & Gordon met with members of ASIC in order to seek approval for CBA's resolution scheme.
Slater & Gordon group practice leader Damian Scattini would not confirm or deny that representatives from his firm met with the corporate watchdog.
Scattini would also not be drawn on rumours Slater & Gordon intends to make an announcement in relation to the CBA resolution scheme as early as this week.
He declined to comment on suggestions the firm had begun work on a planned roadshow around Australia to discuss the outcome of the scheme with ex-Storm clients.
ASIC is not in a position to comment on whether a meeting did occur over the CBA resolution scheme, an ASIC spokesperson says.
The corporate regulator's own investigations into Storm Financial are ongoing, the spokesperson says.
CBA refused to answer questions regarding any compensation options to come out of the scheme, though the bank is open about its need for overhauling its margin loan process.
"The bank is continuing to work on the resolution scheme. When we have something to announce we will do so," a CBA spokesperson says.
"All businesses in the CBA group regularly review policies and processes. We anticipate the margin lending industry will further evolve in response to customer demand and regulatory changes.
"We have and will continue to review our margin lending business in response to these drivers."
CBA has also begun "enhancing" its existing suitability test in line with changes in legislation.
"Commonwealth Bank has committed to communicating margin calls directly to clients by post, email, phone call and SMS," the spokesperson says.
"This is a requirement even if the margin loan is established through an adviser. We will be ensuring all dealer groups are appropriately licensed and that all advisers are properly accredited in line with the new regulations commencing January 2011."
Bank of Queensland (BOQ) and Macquarie Bank are two fellow banking groups facing potentially serious fallout from Storm.
Midway through last year, Slater & Gordon confirmed BOQ was in its sights for potential litigation action on behalf of ex-Storm clients.
Despite this, BOQ continues to deny wrongdoing over Storm, claiming the bank acted appropriately with its Storm clients.
"Based on the information obtained to date in the course of its internal review and legal opinion obtained to date, the bank believes that there was no dishonest or illegal practice or conduct by BOQ in connection with Storm clients," the bank said in a submission to the Parliamentary Joint Committee Inquiry into Financial Products and Services in Australia last year.
Since then, BOQ offloaded its margin loan product to Leveraged Equities which, as of January 2009, is the credit provider and administers the facility.
"As the product is not owned by Bank of Queensland, all suitability/credit assessment calculations and policy changes are performed by the third-party provider," a BOQ spokesperson says.
"As this is a pure referral relationship, BOQ is not involved in these decisions."
BOQ has 261 customers who were introduced by Storm and who borrowed $85.8 million in total from the bank for the purpose of investing with Storm.
"At Bank of Queensland we have been dealing with our Storm-affected customers individually for some time and we believe this personal approach is the most appropriate and is in keeping with our focus on our customers as individuals," the spokesperson says.
"To date we have provided hardship relief to more than 90 Storm-affected BOQ customers, more than half of whom have been granted long-term loan variations outside our normal hardship process, and we will continue to assist customers who are experiencing genuine financial hardship as a result of the collapse of Storm.
"We continue to encourage any BOQ customers who are experiencing financial distress to contact us directly."
Macquarie Bank also jettisoned its margin lending division to Leverage Equities in early 2009. The banking group declined an interview over its involvement with Storm or its existing links to margin lending products.
However, on 12 February, Macquarie was thrown back into the Storm debacle when Justice Rare of the Federal Court of Australia, New South Wales District Registry found in favour of Ross Ian Goodridge over contractual implications of Macquarie Bank's sale of its margin loan book to Leverage Equities.
Upon hearing the judgment, Storm co-founder Emmanuel Cassimatis labelled the ruling a monumental case that has ramifications for all clients of the failed advisory firm.
"The case is monumental and it has ramifications, we believe, for every single Storm client," Cassimatis says.
"The evidence we have is a lot stronger than what that case had, so clearly the courts are not swallowing how the banks describe themselves as the pillars of the community and we've always believed there would be a black letter law defence, which is what the court has apparently ruled."
He says if the court decision is any indication, in his view CBA will be facing "billions of dollars" in costs relating to Storm.
However, despite the decision, the Macquarie ruling does not necessarily offer Storm's legal case a boost in confidence, he says.
"We had a very high degree of confidence, although we're fortified with the fact that there is already a precedent," he says.
"It was always our view that the only place to get a just outcome was in the courts."
It is understood the judgment justifies the approach Storm founders have taken in identifying the breach of contract, the breach of the duty of care and their assessment of the losses that are recoverable.
Neither Macquarie Bank nor Leverage Equities was available for comment on whether they would appeal the judgment.
Westpac is another banking institution that has made many changes in the wake of Storm.
Despite Westpac continuing to provide margin lending facilities under the BT and St George umbrella, the bank has also conducted a review of its operations.
"In response to various legislative initiatives, Westpac has been reviewing its documentation and procedures for its margin lending products," Westpac head of margin lending David Curry says.
As a result of this review, Westpac has updated the models it uses to assess potential listed and unlisted securities that may be included on its acceptable securities lists (ASL). The bank uses these updated models to assess securities included on its ASLs, Curry says.
"As a result of this, a number of listed and unlisted securities have had their gearing changed on our ASLs; [we have] introduced some new requirements relating to how much leverage we will provide against securities, including a five-day trading rule, which means that we will only provide leverage on up to five days' worth of volume on a listed security for any one customer," he says.
"[Westpac] has improved our margin call notice process for the BT Margin Lending product to align it to our other margin lending products in order to ensure the timely communication and satisfaction of margin calls by customers.
"These changes have contributed to Westpac's aim to deliver a responsible lending framework across all of its products. Specific new legislative requirements for margin lending, which the Westpac group is currently working to implement, will further enhance this."
National Australia Bank (NAB) also continues to offer margin lending options to new clients, despite its own links to Storm.
"The number of NAB Margin Lending customers affected by the collapse of Storm is very small compared to other banks," a NAB spokesperson says.
"However, we recognise it is important that the industry as a whole assesses what can be learned from the events of Storm to improve margin lending services.
"To this end we support the regulatory changes recently introduced that designate margin lending as a financial product and regulate it under the Corporations Act."
Last year, NAB advised the PJC inquiry it had undertaken a comprehensive review of its customer records to identify any NAB customers who borrowed from the bank to invest in Storm.
"Through this process we have identified a number of NAB customers who had borrowed from NAB to invest on Storm's advice," the spokesperson says.
"We have been proactively approaching these customers to better understand their circumstances and to assess whether we did the right thing by them. This process is well advanced.
"In any cases where we did not do the right thing by a customer, we have, and will continue to, proactively offer to put things right, including offers of compensation where this is appropriate."
As part of its approach, NAB is also offering to pay for customers to obtain independent legal advice regarding any offers NAB makes and to facilitate independent mediation should customers want or require this.
"This process is progressing well and we have reached a number of settlements with affected customers," the spokesperson says.
"In addition, we have established special hardship arrangements to ensure any customer suffering hardship is compassionately supported."
The spokesperson says NAB has been regularly updating the Australian Prudential Regulation Authority, ASIC and the PJC on the processes outlined above and more generally on how the bank is handling this issue.
NAB says it is difficult to identify the specific impact of the collapse of Storm and to differentiate it from the broader impact of the global financial crisis (GFC).
"What we can say is all investors have clearly been affected by the downturn in markets following the global financial crisis and that market volatility was most acutely felt by those investors with significant levels of gearing," the spokesperson says.
"As a result of the GFC, margin lending investors are taking more cautious positions, investing in higher-grade investments and are operating within more conservative loan-to-valuation ratios.
"However, margin lending remains an appropriate strategy for some investors, both as a wealth creation and a liquidity tool. Those investors continue to use margin lending and appreciate the services of lenders such as NAB Margin Lending."
Westpac is in agreement.
"Westpac believes that appropriately managed margin loan facilities will continue to be considered by customers and their advisers as part of a responsible investment strategy," Curry says.
"While a gearing strategy may not be appropriate for all customers, it may be appropriate for customers that have responsible gearing levels and actively manage their margin loans."
NAB has also made changes to its margin lending operations, though the changes are not purely in response to Storm.
"While NAB Margin Lending has not made changes purely in response to Storm, we have recently introduced a number of new systems to improve our service and help clients better manage their loans - some of which were in development prior to the GFC," the spokesperson says.
"One recently introduced innovation is our email and SMS margin call alert. This service automatically sends an email to a client alerting them that their account has gone into margin call. Clients can also opt to receive an SMS alert if they provide their mobile number."
NAB has taken a similar approach to adviser criteria in its margin lending operations, with the banking group operating to strict criteria when recommending margin lending to clients.
"To manage the risks involved with margin lending strategies, all of MLC's licensees have a margin lending licensee standard in place, which provides an operating framework for how authorised representatives can use gearing in client strategies," the spokesperson said.
"We take our licensee standards very seriously and a breach by an adviser can result in a number of actions, including withdrawal of the adviser's accreditation."
As well as internal changes, the financial services industry will be forced to change in line with new margin lending legislation.
Westpac and NAB are both on track to meet the changed margin lending legislation that comes into effect from January 2011.
The legislation will require all financial advisers to update their training requirements by completing a newly-created module in margin lending.
ANZ declined to comment.
