The corporate regulator has taken legal action accusing Westpac of insider trading over a $12bn interest rate swap linked to the part-privatisation in 2016 of New South Wales’s electricity distribution network, Ausgrid.
In a federal court lawsuit filed on Wednesday, the Australian Securities and Investments Commission accused Westpac of using inside information to trade in interest rate derivatives during the two hours before it executed the swap, which was the largest in Australian history.
It is the latest regulatory blow for the big bank, which in September last year agreed to pay a record $1.3bn fine to settle legal action over money laundering and child exploitation allegations levelled against it by the financial intelligence agency, Austrac.
Westpac also has recent form in the area of market manipulation – in 2018, the federal court found it had engaged in “serious and unacceptable” conduct by attempting to fix an interest rate benchmark, and fined it $3.3m, which was the maximum available under the law at the time.
It is believed Asic started investigating the Ausgrid transaction as part of a broader examination of markets in part prompted by the rate-fixing cases it ran against Westpac and other banks.
The alleged victims of the Ausgrid insider trading are the buyers of 50.4% of the company, a consortium made up of the country’s biggest super fund, AustralianSuper, and the industry fund sector’s collective investment vehicle, IFM Investors. Both declined to comment.
Through a company set up for the purpose, known as a “special purpose vehicle” or SPV, the consortium ordered the swap to protect against fluctuations in interest rates by converting a floating rate loan needed to buy the Ausgrid stake into a fixed rate one.
Asic alleges Westpac knew it was likely to get the job of executing the trade and engaged in a flurry of trade in interest rate derivatives on the morning of the day the deal went through, 20 October 2016.
Between 8.30am, when the market opened, and 10.27am, when the buying consortium executed the swap, Westpac executed 876 trades in interest rate derivatives with a face value of $16.57bn, Asic alleges in a statement filed with the court.
Asic alleges these trades “affected, or was likely to affect or had the potential to affect” the cost of the swap, and that “Westpac knew or should reasonably have known this”.
The regulator also alleges Westpac did not tell AustralianSuper and IFM Investors about the trading.
“The consortium could observe the prices for the traded products moving during the morning of 20 October 2016 to its detriment but could not know if it was trading by Westpac that was moving those prices,” Asic said in its court filing.
“Being under time and risk pressure, and having decided to limit its risk by executing the swap deal with a single bank, the consortium’s SPV had no practical alternative but to execute with Westpac.”
In addition to accusing Westpac of insider trading, it alleges Westpac also engaged in unconscionable conduct.
This is because Westpac intended to engage in transactions that reduced the risk to it associated with the swap by as much as 50% but “did not disclose that intention to or seek consent from the consortium and/or the consortium’s SPV”, Asic alleges.
It alleges that “Westpac was aware that the consortium was concerned about the risk of the selected counterparty to the proposed swap deal engaging in trading that might affect the quoted rate” that it had to pay for the swap.
“Westpac was aware, or should reasonably have been aware, or was indifferent to the risk that engaging in the morning trading would have this effect, and engaged in the morning trading regardless and without disclosing its intentions beforehand.”
Asic also alleges Westpac breached its financial services license by failing to act efficiently, honestly and fairly.
In a statement to the stock exchange, Westpac said it “takes these allegations very seriously and is considering its position having just received the originating application and concise statement of claim”.
If it decides to fight Asic’s allegations, possible defences open to Westpac include arguing that the consortium gave permission to it to hedge its position.
The bank may also argue that hedging ahead of a big transaction is a common market practice.
If Asic wins, the court is unlikely to impose a big fine on Westpac. The penalties that can be levied are those available in 2016 – before big increases in 2019 following the banking royal commission.
At 2016 rates, the maximum penalty for insider trading is $1m although Asic may try to argue that each trade should be counted as an individual breach. The maximum penalty for unconscionable conduct was $1.8m.
At the time, there was no financial penalty available for the alleged license breach.