Insider case that reveals the City’s rotten culture

Anthony Hilton
9 Oct 2009

We live in a strange world. Two Dresdner Kleinwort portfolio managers were this week censured for market abuse by the Financial Services Authority.

The reaction in City law firms, and hence the media, was that this was a humiliation not for the accused but for the regulator because the penalties were so weak. Apparently the FSA's intention to impose stronger penalties was overturned when the men successfully appealed to the FSA review committee — an oversight board of lay members put in place to mitigate the risk of the regulator being too heavy-handed.

Surely, however, the real story is the claim by these men that they did not know they were doing anything wrong. The real story is not the humiliation of the FSA but the rotten culture of the City, which formed the background to this transaction.

The facts are not in dispute. They had been officially sounded out as portfolio managers to see if they would be interested in buying a new tranche of Barclays debt. They were told in confidence (in their capacity as potential buyers) that it would be issued on terms that undermined the value of a tranche of existing Barclays debt they already held.

Taking advantage of this official tip-off, they immediately sold their soon-to-be-devalued debt to another firm that was not in the loop. This ensured the new buyer took the loss when the new tranche came out. The accused then reinvested in the new tranche.

Now if these guys did not know this was wrong, you have to wonder what moral touchstone they use and what ethical standards their firm expected of them. Having been given an advantage on account of their official position, they deliberately took advantage of a client who trusted them.

They knew the stuff they were selling was overpriced because they had been given inside information that said so. They also knew the buyer did not have this information, so they deliberately put him in a position where he would take the loss which rightfully should have been theirs — and which would presumably be compensated for by the favourable terms on which they would be allowed to buy the new stock.

A child of two would know such behaviour was unethical. What is it with the City that it appears not to?

Chi-Med's new dose of success

It is rare for this column to tip a share, and even more unusual for one thus recommended to double within three months. But given that is what has happened since the progress of Chi-Med was reviewed here in July, it is time for an update.

Chi-Med on the one hand researches and develops drugs based on ancient Chinese remedies and on the other operates a less glamorous but highly effective business distributing healthcare and pharmaceutical products in China itself. The revenues from distribution help fund the cash-intensive research side.

The excitement this year, which has in fact seen the shares quadruple, has come from growing awareness of the potential of some of the drugs, but the story this week was about a new deal for the bread-and-butter distribution business. Except it is anything but bread and butter in that the Chinese market is growing at a tremendous pace, but building an infrastructure to access that market takes years and in any case is for complex reasons of culture and cost beyond the competence of most Western firms.

So although it did not start out with this in mind, one of Chi-Med's great assets is that it operates one of the pipelines through which healthcare and pharmaceutical products can be channelled to the Chinese consumer mass market.

It this week signed a joint venture to distribute the products of Hain Celestial, a business not well-known here but one that can claim to be among the most successful producers in the US of infant and toddler feeding products. The significance of this is that China's growing affluence, coming on top of its relaxing its one-child policy, has created a huge pent-up demand for quality branded Western baby goods. Obviously the partners in the joint venture expect Hain's products to go down a storm.

They probably will but the wider point, which may well keep the fires burning under the shares for a while yet, is that it underlines the potential rewards that flow from being able to deliver access to the China market. As the old saying has it: “In a gold rush, you make money from selling the shovels, not doing the digging.”

A nutty value on Brazil bank float

When lastminute.com was floated, it was valued at more than WH Smith or Debenhams. It could not possibly make sense. It was the internet bubble. When Banco Santander's Brazilian banking business floated this week, it achieved a market value greater than the entire operations of Deutsche Bank or Société Générale. Frankly, I just don't believe that either. An emerging markets bubble perhaps?