This year, during the five hours that Warren Buffett and Charlie Munger answered questions at the Berkshire Hathaway AGM, I listened closely and sent out a string of 140 character messages via Twitter (@alechogg). A couple days after the meeting were spent catching up my notes. Only now, a fortnight later, is much of the relevance of what the wise men said actually sinking in. One of the questioners expressed concern that financiers on Wall Street did not learn much from the 2008 Meltdown that their greed created. Buffett and Munger suggested this could be a result of misaligned responsibility – although financial institutions were heavily fined, nobody went to jail. I pursued this line of thinking with Brian Henderson, a Wall Street veteran who was in the country as the keynote speaker at last week’s First Avenue client conference.- AHÂ
ALEC HOGG: Bank regulation in the United States is highly fragmented compared with other G-10 countries. While most countries have only one bank regulator, in the US, banking is regulated at both the Federal as well as the State level. There are historic reasons for that and we’ll find out more about that. Here, in our JSE studios, to discuss the impact of bank regulation on risk-taking in the U.S. is Brian Henderson who is in town to help Tlelo Giyose and First Avenue. Have you visited this country often?
BRIAN HENDERSON: I came here first in 1993.
ALEC HOGG: So you’ve seen the changes.
BRIAN HENDERSON: A lot of changes and in fact, at the time I was at Merrill Lynch we had to come here to begin the process of opening our activities in the country, since we were blocked (for obvious reasons) for many, many years. Since that time, I fell in love with the place and it’s nice to be back.
ALEC HOGG: South Africans aren’t that much in love with American banks.
BRIAN HENDERSON: Not any more.
ALEC HOGG: I don’t know if anyone in America is actually in love with American banks at the moment.
BRIAN HENDERSON: Well, very few people ever really loved banks, but there was a greater degree of respect for them. Let’s put it that way.
ALEC HOGG: At the Berkshire Hathaway AGM, there were a few question on the subject as there always are. Both Warren Buffett and Charlie Munger said that perhaps the legislation was slanted in the wrong way, that if more people had gone to jail because of what happened in the run-up to the financial crisis, there would be greater satisfaction that these things would not happen again. Is that exaggerating the situation? How do you read all this?
BRIAN HENDERSON: Well, to be perfectly honest, I think there is a sheer sense of frustration that there hasn’t been more individual accountability for the errors, and for the lack of fiduciary responsibility in the sector – broadly speaking. It’s actually concentrated in a few institutions and within those institutions, in a very select and limited number of individuals. Back in the day when the National Bank Holding Company Act, who was really the more all-encompassing legal framework around which banks were regulated… Chairmen of the banks were actually liable personally, and were indeed also subject to jail, were there to be a failure in a bank. Indeed, there was only one person who was put in jail in 1977/78, after the failure of the Franklin National Bank. Today, we’ve gotten into a situation where there hasn’t been any consequence of that nature and I think this is what’s frustrating people. However, the government and those different entities today that have been involved in pursuing the breaches of rules and regulations, are taking a certain amount of comfort in the sizeable legal financial settlements that have been imposed upon the institutions. They’re extracting money I suppose, because it’s easier…because the institution can settle. There are no criminal liabilities toward the individuals yet. There may be some in the future, but they have a high hurdle from a legal standpoint, to prove anything that would implicate and ultimately, subject that individual.
ALEC HOGG: That was exactly the point being made by these two guys in Omaha: if the institution is going to carry the liability then what disincentive is there really on the individual to stay far away from sailing close to the wind?
BRIAN HENDERSON: To be honest, I don’t think there is sufficient disincentive because in effect, you’re protected. It’s almost like being behind a firewall. I can push the envelope as far as I wish, up until the point where in fact, somebody said ‘stop’. The consequences of whether I may or may not have done will be protected by the institution. Unfortunately, I think that is a bad mindset to have and every one of these large settlements, albeit non-U.S. banks operating in the U.S. or U.S. banks… At my talk yesterday at Tlelo’s conference, my whole message was indeed, this very issue. How do you as an investor today, assess management in this environment where on the one hand, you have the history we’ve lived through, the stresses to the system that this has implied, including the absence of substantial liquidity, and proactivity to assist the market in developing its economic potential? On the other hand, with balancing shareholder interests with the proper management structure that can make both happen responsibly.
ALEC HOGG: And overlay that to a board of Directors who act more like Cocker Spaniels than Dobermans?
BRIAN HENDERSON: Well, they shouldn’t. I believe it is much more difficult today to attract boards of directors/individual members because indeed, in the U.S. you are individually and personally liable for anything that may or may not happen in the bank. The Federal Reserve, the FDIC, and the OCC are all that much more cognisant of that fundamental fact and they’re much more aggressive in pursuing individual boards and individual members of those boards. I, for one, having lived through one of these situations, did the only thing I could do, which was to resign from the board because I disagreed vehemently with not only actions, but also the philosophy around some of the actions that were taking place in a foreign bank.
ALEC HOGG: Explain that. What happened there, that you felt so strongly that you wanted to resign?
BRIAN HENDERSON: Let’s put it this way: there’s an absence of understanding in certain European banks – and I would say indeed, in certain foreign banks – of the reputation damage to not only the individuals, but to institutions now for lack of compliance to the spirit as well as to the letter of the U.S. regulations. I was a Director of an FDIC state-chartered bank, owned by a foreign institution. Notwithstanding the efforts made to tell the shareholder in Europe why these issues had to be addressed and addressed quickly, it was almost as if I were talking to a stone wall. I think my time here has been enough, and so I resigned.
ALEC HOGG: Can you extrapolate that to perhaps a different culture towards banking and towards bank regulations in Europe versus the U.S.?
BRIAN HENDERSON: No.
ALEC HOGG: It’s just individual.
BRIAN HENDERSON: It comes down to an individual philosophy. If you are committed to the fundamental principle of engendering trust, which is ultimately, what this is about, then anything that has to do with or potentially, might compromise that trust…you’re going to do everything possible to avoid breaching that fundamental standard. The rules and regulations are very precise in many respects, but they are also in the U.K. sense, prudential. If you’re breaching that prudential responsibility, you should actually go ahead of what may or may not be your actions, to limit that.
ALEC HOGG: Brian, just to pull it all together, one doesn’t want to waste a good crisis. 2007/2008//2009 in the U.S. was a good crisis. Has the country learned? Is regulation going to be changed to ensure that at least, the lessons are being applied?
BRIAN HENDERSON: As with everything else in life, when there is a problem, sometimes you veer a little too much toward correction. I think the dialogue was a little bit too much on the political end as opposed to the rational reapplication of some of these principles and making sure that indeed, the structure could be improved to avoid these circumstances. I believe that there are going to be additional consequences to the legislative and regulatory framework, such that there’ll be better harmonisation and coordination amongst not only the Federal, but the State regulators; not just bank regulators, but the Securities regulators and the trading entities, plus the justice departments of the different states and the Federal government. There’ll therefore be an overall umbrella of application of fundamental principle in a way, which is not disenfranchised relative to the ability to arbitrage between different regulators. This gives time to the process. This allows for selective disclosure within the judicial aspect of this, such that the Federal government has one view – the banks play that against the State view, the Securities view, or against FINRA – so it becomes a lawyer’s dream and you just spend your time playing one off against the other and buying for time. Ergo, some of these settlements have become somewhat…almost a game in terms of the strategic negotiating process that removes the fundamental cause as the real issue. However, it then becomes a victory for both because (a) you don’t have people going to jail – theoretically – you theoretically protect the individual and the bank can settle on an amount that the government can then say ‘we’ve actually been able to extract pain’. Pain is defined in terms of money and/or shareholder hurt.
ALEC HOGG: Brian Henderson, it’s complex, but fascinating. Thanks for unpacking it for us.
BRYAN HENDERSON: Thank you, sir.
ALEC HOGG: That was Brian Henderson, Founder and Partner of Henderson International Advisors in Johannesburg, to help with the First Avenue conference, which was held yesterday. Remember, you can email us on [email protected].
