In the first major action by financial regulators in the U.S. and the U.K. against the various banks they were investigating over the alleged fixing of LIBOR, Barclays (NYSE:BCS) is paying $451 million to settle the case over its involvement in manipulating the benchmark interest rate.  The heavy penalty imposed on the U.K.-based bank signals the possibility of other banks which are also being investigated over the issue facing similar fines in the near future, including Citigroup (NYSE:C), JPMorgan (NYSE:JPM), Deutsche Bank (NYSE:DB), and UBS (NYSE:UBS).
We are currently in the process of updating our $15 price estimate for Barclays’ stock, to factor in the effect of the sale of its BlackRock stake and of the $451 million fine.
Why All the Fuss About LIBOR?
The London Interbank Offered Rate (LIBOR) refers to a series of benchmark rates managed by the British Bankers’ Association (BBA) which indicate the average interest rate at which banks lend funds to each other. LIBOR is published every working day for ten currencies, with interest rates from different sets of banks considered for the calculations.
The importance of LIBOR in the international market can be understood from the fact that almost all interest-rate derivatives contracts around the globe are based on LIBOR. It should be noted that the notional value of just over-the-counter (OTC) interest rate derivatives globally was more than $550 trillion during the first half of 2011. ((Barclays fined £59.5 million for significant failings in relation to LIBOR and EURIBOR, FSA Press Releases, Jun 27 2012)) In fact, LIBOR indirectly contributes to the interest rates on loans and mortgages too.
Alleged Collusion Among Banks
In 2008, a report hinted at the possibility that banks were artificially keeping LIBOR lower by downplaying their borrowing rates at the peak of the global economic crisis.  The potential conflict of interest for banks whose input helps determine the rates became evident during the downturn, resulting in investigations by financial regulators in the U.S., the U.K. and Switzerland.
The first casualty of this investigation – Barclays – was found to have manipulated LIBOR to keep it artificially low with at least four other as yet undisclosed banks. The magnitude of the event led the British FSA, the American Commodities Futures Trading Commission (CFTC) and the Department of Justice (DoJ) to impose record fines on the bank. While the FSA fine amounts to £59.5 million ($91 million), the CFTC and the DoJ slapped fines of $200 million and $160 million, respectively, on the bank.
The fine will be reflected in Barclays’ results for this quarter as an increase in its non-interest expenses – and a corresponding reduction in margins. However, the potential reputational damage from this incident is the real source of concern for the bank.Notes:
- Barclays $451 Million Libor Fine Paves The Way For Competitors, Bloomberg, 28 Jun 2012 [↩]
- Study Casts Doubt on Key Rate, The Wall Street Journal, May 29 2008 [↩]