Lloyds just lost the right to screw investors out of £1 billion

Lianna Brinded

Britain's High Court ruled that Lloyds is not allowed to buy back "Enhanced Capital Notes," or ECNs, which pay extremely high interest rates to investors. If Lloyds were able to buy these back, it would have saved £1 billion ($1.5 billion) in coupon payments.

ECNs — more commonly known as CoCos (Contingent Convertibles) — were sold to around 120,000 retail customers in 2009. The cash from that bond sale was used as an emergency measure to stop the bank having to ask the state for more bailout cash. It had already been handed £20.5 billion ($31.4 billion) in taxpayer money.

In exchange for investors buying CoCos, Lloyds agreed to pay super-high interest rates, from 6% to 16%. Most interest-bearing investor products are near zero or 1% interest right now. It cost Lloyds around £200 million ($307 million) a year in coupon payments. It was very expensive for Lloyds to keep these bonds running, but the bank felt it had to offer them in order to contribute to its legally required capital cushion.

In 2014, Lloyds announced that it wanted to buy back the bonds because new British and European capital rules ruled that ECNs would no longer be eligible for inclusion in the bank's "core tier 1" – the amount of liquid assets banks need to hold to buffer themselves against another financial crisis.

Around £5 billion ($7.6 billion) worth of ECNs were exchanged in 2014 for new financial instruments but that left around £3.3 billion ($5 billion) of ECNs outstanding.

Since Lloyds became partially state-owned in that bailout, it has to obtain permission from the Prudential Regulation Authority in order to pay dividends or make large-scale financial decisions, like buying billions of pounds worth of bonds back.

It got permission in March this year to do so. Lloyds wanted to give ECN holders just 128.5p per bond, which is dramatically less than the 175p they were worth before Lloyds issued them.

But thousands of retail investors took the bank to court to stop Lloyds from buying back the ECNs. Their position was that they bought the bonds in good faith, and Lloyds ought to not welch on the deal. It was a ripoff for Lloyds to use a technicality to end the bonds via the buyback, the investors claimed.

A judge at London's High Court dismissed Lloyds' justification for buying back the bonds, and said ECNs may still be taken into account for future stress tests and therefore they cannot rule out the the large amount of outstanding bonds wouldn't be included in the next one.

Lloyds said in a statement: “The group is disappointed with the decision and has sought permission to appeal to the Court of Appeal.”

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