Written by Tom Davey, Co-Founder and Director at Factor Risk Management
After the frenzied fire sale of Credit Suisse to rival UBS, it was only a matter of time before lawsuits were issued by Credit Suisse shareholders and bondholders alike.
While the distressed takeover sought to close the door on concerns about systemic risks to global markets, the sale also opened an adjacent window to what litigation funders and enterprising lawyers see as an increasingly attractive battleground for class actions.
Following the US Supreme Court decision of Morrison v National Australian Bank, which restricted the ability of investors to bring claims against issuers outside of the US, it will be interesting to see how investors fair in their pursuit of claims under the relevant jurisdictions regarding Credit Suisse. In the UK, the RBS rights claim in 2008 was an epic battle that ran to the wire, so any claimants contemplating litigation may well need to be prepared for the long haul.
Six weeks on from the sale, at least six reported class action suits have now been initiated against Credit Suisse, as well as a group claim against the Swiss financial regulator by a group of bondholders aggrieved by its role in the government orchestrated rescue by UBS.
Credit Suisse’s own admission that it had found “material weaknesses” in its financial reporting processes for 2021 and 2022, which could have resulted in “misstatements” of financial results, formed the basis for at least one of the group actions against the bank. Credit Suisse stands accused of making “materially false and misleading statements” in a suit filed in New Jersey, and future claims against the bank will doubtless level similar charges, as investors seek redress for losses caused by the reporting failures.
The legal action facing Credit Suisse provides further evidence that, 15 years on, financial regulators have still not learned the lessons of the 2008 financial crisis, with oversight of the banking sector still not effective enough to prevent such collapses. Instead of pre-emptive efforts to avoid bank failures, regulators seem to only be spurred into action when it is too late to avoid shareholders, bondholders and other stakeholders suffering bruising losses.
At the same time, the ‘too big to fail’ ethos of the 2008 financial crisis seems to be increasingly applied to smaller banking entities, with regulators often facilitating quick deals as a way to stave off contagion. In some cases, regulators even circumvent their own stated rules, hurriedly selling off embattled banks on the cheap, or working with central banks to provide generous liquidity and backing to other troubled institutions to help them stay afloat.
There is an inherent danger in neutering market forces which would ordinarily weed out the weak to ensure long-term strength for the rest of the sector. The moral hazard still present in the banking system means that banks’ management remain able to operate with the same sense of impunity as they enjoyed in the run-up to the 2008 crisis. Boards can be incentivised to take on more risk or cut corners on
governance, safe in the knowledge that central banks and, by extension, taxpayers, will carry the can when things go wrong.
In the case of Credit Suisse, regulators ultimately chose to deploy private rather than public funds to prevent its collapse, but that made scant difference to shareholders and other stakeholders of the bank in terms of the losses they were forced to bear.
While large institutional investors have the firepower to bring legal actions against the likes of Credit Suisse when regulators force through a fire sale, smaller investors do not always have the financial resources to fund such complex and costly legal claims. As such, a group or collective action may be their most effective – if not only – means to achieve a result in their fight for compensation. The group litigation following RBS’s controversial rights issue in 2008 showed the potential of such action against a formidable opponent.
Interested observers will be keen to see if third party funders have a role to play should investors want to use litigation finance to fund actions. Detractors of the funding industry will say that the availability of funding ‘fuels’ litigation and promotes the pursuit of unmeritorious claims, but under many jurisdictions recourse to the law is beyond the means of many, including corporates, particularly where the opponent is a well-financed company with ‘deep pockets’, so exponents point to the necessity of funding to improve access to justice.
While regulators and central banks can and must react quickly to head off a worse crisis from unfolding, it is often the “law” that in quieter times pores over the carcass and decides what is right and wrong, and who should be compensated. The spur for this is often not the regulator or criminal prosecution service, but rather law firms acting in for civil action brought by disgruntled shareholders and other stakeholders. It could thus be said that the greatest regulator of banks’ behaviour is the credible threat of paying compensation.
At the same time, where serious criminal wrongdoing is alleged, public prosecutors are often not sufficiently resourced to be effective in serving justice. As a result, it is possible that we will see the increased use of private criminal prosecutions as well as civil action in such cases.
This would send a strong message to banks that they must clean up their act and spur soft-touch jurisdictions to react to preserve their reputations as safe places to invest. The Credit Suisse fiasco has damaged the credibility of the Swiss banking sector and its regulator. Group claims against them may well bring redress to injured investors, but just as importantly act as a sufficient deterrent to banks and regulators to ensure such disastrous collapses never come to pass in future.