Beneath the banks’ bonnet uncertainty lingers

Banking stocks may be revving up on the back of a legal win but lenders might find there is still trouble lurking under the bonnet on motor finance.

City banks dodged a £44bn liability after the Supreme Court upheld the appeal of two banks in the landmark motor finance case.

On Friday, Close Brothers and First Rand successfully overturned the Court of Appeal’s October ruling that it was unlawful for banks to pay a commission to a car dealer without the customer’s informed consent.

Less than 48 hours later, the Financial Conduct Authority said it would consult on an industry-wide redress scheme estimating costs between £9bn and £18bn.

Andy Nelson, head of UK banking and financial markets at NTT Data, said: “The judgment may limit immediate exposure, but it’s still a warning.”

Nelson said the ruling “stops short of mandating sector-wide redress” but “banks can’t afford to be complacent”.

The FCA said it is still ironing out the details of the redress scheme but confirmed it would cover agreements going back to 2007 in line with complaints that the Financial Ombudsman Service can consider.

This sparked fierce backlash with Stephen Haddrill, director general of the Finance & Leasing Association, branding the timeframe a “major concern” and “completely impractical”.

The association’s chairman, John Phillipou, told the Telegraph that compelling compensation dating back nearly two decades would harm the UK’s “investability”.

“I don’t think it’s good for UK investability that the reason for keeping the data is that you might get sued in 15 years time,” he added.

Lloyds lets motor finance rest

Lloyds said on Monday it does not expect any “material” impact from a redress scheme and would “update” its provision “as and when necessary”.

The group had set aside the highest figure for potential payouts at £1.2bn. Santander had reserved £295, Close Brothers £165m and Barclays £90m. 

Benjamin Toms and Pablo de la Torre Cuevas, analysts at RBC Capital Markets, projected Lloyds would be on the hook for £1.6bn in a base case scenario. Meanwhile, Santander’s would climb to £746m and Barclays £216m.

Whilst previously they estimated total compensation could climb to £30bn, following the Court’s ruling they expect a £11.5bn hit.

Even in a downside case, analysts did not expect provisions to climb above £16bn.

The analysts slapped an upgrade on Lloyds stock on Monday raising it to ‘Outperform’. They hiked the stocks target price 30 per cent to 95p and believed in an upside scenario it could reach 110p – a 50 per cent jump from their previous projection.

Not the end of the story for some

While Britain’s biggest mortgage lender can take the fresh ruling in its stride, for some their troubles could be set to deepen.

“This is by no means the end of the story and the FCA’s statement could still have significant implications for the UK motor finance industry more generally”, Hyder Jumabhoy, partner at White & Case, said. 

Jumabhoy said this could accelerate mergers and acquisitions across the sector if lenders have “decreased risk appetite but also because of unused provision amounts becoming available for acquisitions”. 

This would kick the UK banking landscape’s consolidation into a new gear and follow on from the buyout bonanza across retail banks in the last year.

Most recently, Santander snapped up high street bank TSB, but banking analysts have pegged more consolidation on the horizon.

Moody’s analysts Alessandor Roccati and Simon James Robin Ainsworth previously said Close Brothers could be “taken over if regulatory investigations into its motor finance business were to result in financial penalties that weakened its solvency”.

Whilst the firm is expected to skirt an all out car crash, analysts still expect the sector’s big players to be searching for ways to ramp up their dominance.