Cobrapost’s allegations raise questions about whether private banks are completely free of governance risks. But investors also need disclosures about the credentials of the whistle-blowers.
The stock market has been surprisingly cool to allegations from online magazineCobrapost that private banks - ICICI Bank, HDFC Bank and Axis Bank were offering ‘over-the-counter’ money-laundering services to clients. The bank stocks actually closed the day with marginal gains.
BUSINESS AS USUAL?
It is difficult to believe that investors took comfort from the subsequent actions of these banks. After making predictable statements about adhering to corporate governance standards and ‘best practices’, the banks have been quick to blame the implicated front-office staff and promise investigations into the matter.
It could well be that the markets are no longer surprised by any scam emanating from the financial services sector. After all the mega-scandals that have rocked the global banking industry in the last five years, from its dalliance with sub-prime borrowers to blatant rigging of the Libor, the revelation that banks help in money laundering probably appears quite tame. Reports that banks may be laundering money for their wealthy clients through benami accounts or stuffing wads of currency into lockers don’t seem to have the same shock value.
In reality, after all, there is only a thin line separating the tax planning services that large banks offer to their high-net worth clients and money laundering of the kind captured by this sting operation. Haven’t Swiss banks built an entire business model around this theme of “Give us your money, no questions asked”?
JUSTIFY THE PREMIUM
Nevertheless, this episode does have significant takeaways for investors and regulators. For one, it raises the question of whether private sector banks deserve the huge valuation premium that they enjoy in today’s market.
Private sector bank stocks today trade at many times their book value while their public sector counterparts struggle to trade at book value. This valuation gap has arisen largely due to a lack of faith in the quality of loan books of public sector banks.
The general belief among investors seems to be that public sector banks suffer from a ‘governance’ risk with political pressure forcing them to extend loans to borrowers who don’t pay up. Private sector banks on the other hand, are viewed as squeaky clean because they face no such external pressures.
But this episode shows that ‘governance risks’ can take other forms too. If the loan books of public sector banks are suspect because of poor quality loans, what is the quality of the fee income that holds up the margins of private sector banks? Is it earned from legitimate sales of insurance and other products to bona fide clients?
WHY TURF BATTLES
The second takeaway is that, instead of engaging in turf battles, it would be good for India’s financial regulators to accept that it is healthy to have more than one regulator for key sectors.
The video footage and other details of the sting operation conducted by Cobrapost actually make one wonder how such blatant transgressions can occur in a sector that is under the watch of India’s most respected regulator – the Reserve Bank of India (RBI).
After all, it cannot be very difficult for officials of RBI or SEBI to conduct periodic checks a la Cobrapost, on the branch offices of the financial services firms that are under their watch.
This leads to the conclusion that the regulators do not have adequate staff or the bandwidth to watch over all their constituents at all times. That the allegations revolve around black money being routed into insurance products, gold and bank lockers also flag three precise areas within the financial sector where Know Your Client norms are fairly lax. Maybe it is time for collaboration between RBI, SEBI and IRDA to plug these loopholes.
The third aspect of this scam and the market reaction to it, relates to the credentials of these private whistle-blowers themselves.
In this case, Cobrapost has used its scoop to raise strident questions on everything ranging from the safety of deposits lying with banks to the wisdom of issuing new banking licences to the private sector.
But for investors to repose confidence in such reports, what they need is more transparency from the whistle-blowers. In recent months, the number of private whistle-blowers who flag corporate governance issues has simply mushroomed.
A clutch of proxy advisory firms, equity research firms and media have gotten into the act. Disclosures on their own ownership and revenue models and disclaimers about their own positions in the stocks/companies being investigated, would certainly be welcome.
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