By mid March, America’s champion fraudster Bernie Madoff will have served two years of a 150-year prison sentence for stealing billions of dollars from his rich and famous investors. As he chalks up the anniversary on his North Carolina jail wall, our corporate cop, the Australian Securities and Investments Commission (ASIC), will have barely begun its action against Australia’s champion wealth destroyer Storm Financial Ltd, whose reckless advice cost 3000–4000 investors in Queensland, New South Wales and Victoria around $3 billion.
Yet these financial collapses happened at almost exactly the same time: Bernie Madoff was led away in handcuffs in December 2008, just as Storm’s banks pulled the plug on the big Townsville-based financial planner and its unfortunate clients. There are, of course, huge differences between the two cases, not least that Bernie Madoff pleaded guilty and Storm’s founder, Emmanuel Cassimatis, didn’t steal investors’ money. But there are also strong similarities; these two super salesmen helped wreck the lives of thousands of elderly investors.
Cassimatis’ ex-partner, Ron Jelich, who sold his financial planning business on the Gold Coast to Storm and became a key player in the group, told a parliamentary inquiry in 2009 that the collapse had inflicted “total horror, emotional despair and psychological terror” on “thousands of loyal, innocent, trusting, decent Storm clients”, whose lives had “been shattered, in many instances, beyond repair”. Yet more than two years later, Emmanuel and Julie Cassimatis, the two principals of Storm, have not been punished, no adviser has lost his financial services licence – as far as we know – and the banks who put up the money for investors to gamble with have not been made to pay. Or, not by ASIC.
All the action so far has come from the private sector, with legal firm Slater & Gordon negotiating an undisclosed $400-million settlement with the Commonwealth Bank for 1500 investors last year (plus smaller settlements with ANZ and NAB) while also pursuing two actions for damages against the Bank of Queensland (BoQ) since mid 2009. Another law firm, Sydney-based Levitt Robinson, is also suing Commonwealth Bank on behalf of a further 300 clients.
Just before last Christmas, ASIC finally joined the queue, launching three legal actions in the Federal Court against Emmanuel and Julie Cassimatis, Storm Financial Ltd and its main lenders – Commonwealth Bank, Macquarie Bank and BoQ. So why did it take so long? First, ASIC’s chairman, Tony D’Aloisio, believed the banks would settle; second, the lawyer in charge of ASIC’s investigation, Tim Castle, walked out last March because he wanted a tougher approach; and third, the wheels at ASIC grind exceedingly slowly.
In early 2010, ASIC was telling the public that Storm was its number one priority and promising progress by March. Then it was August, then November, then late December. But we can now expect to wait two to three years before we see any results. Or eight years if it follows the pattern of ASIC’s ill-fated case against Jodee Rich and One.Tel, which ended in a huge and costly defeat. The long delay increases the likelihood that Storm’s elderly investors will die before victory is declared – should ASIC manage a rare win.
If ASIC succeeds, it could establish an important principle for future investors: that the banks who lent money to Storm’s clients were “linked credit providers” under section 73 of the Trade Practices Act (TPA) and can therefore be sued for any damage inflicted by Storm’s misdeeds.
ASIC is using this legal weapon in its damages action against Macquarie Bank and BoQ on behalf of two investors in their sixties, Barry and Deanna Doyle. The Doyles, from the Townsville suburb of Kirwan, ‘double-geared’ into the stock market by borrowing against their home and using the cash to raise yet more money to invest. Barry worked as a part-time librarian, earning $17,500 per year; Deanna was retired and collected $7000 per year from Centrelink. Yet, thanks to Storm, BoQ and Macquarie, they ended up owning a share portfolio costing $2.26 million, with debts to match, on which their annual interest payments eventually rose to $191,800.
The Doyles pitched up at Storm’s Townsville headquarters in March 2006 with a house worth $450,000 and $640,000 in superannuation. Two-and-a half years later their super had gone, the share portfolio had been sold and they had racked up a debt of $456,000 on their (previously unencumbered) home, with insufficient income to make the repayments. In other words, they had been wiped out. In return for this disastrous investment advice, which saw them increase their borrowings or exposure to the stock market no fewer than 11 times in 25 months, the Doyles paid Storm $152,000 in fees.
ASIC is alleging that BoQ and Macquarie acted unconscionably by letting the Doyles enter a high-risk transaction in which they were likely to lose their home, while they (BoQ and Macquarie) held the Doyles’ house and shares as security and were bound to make money. But ASIC is also hoping to use section 73 of the TPA to make the two banks jointly liable for Storm’s many false and misleading representations. And that may be harder, because this part of the TPA was designed for (and has only succeeded against) car dealers. One legal expert describes ASIC’s line of attack as “brave” and “novel”. For which, read: unlikely to succeed.
Certainly, neither Macquarie nor BoQ has plans to concede, with the latter issuing a press statement to say, “It is our intention to defend this action vigorously.” BoQ went on to say it had “never provided margin loans, never promoted Storm Financial products, never managed geared equities and never [taken] any commission from Storm.”
BoQ had 370 customers from Storm, who borrowed around $105 million against their homes. Macquarie had 1000 clients who borrowed an estimated $800 million in margin loans that were secured against shares. The biggest lender was Commonwealth Bank and its subsidiary Colonial Geared Investments, who had 2300 customers between them (borrowing against their homes and on margin); they have already admitted they were partly at fault.
The Doyles’ experience is quite typical of how Storm investors were pushed to the brink. Elderly couples with little or no income were loaded to the max with debt and persuaded to put their houses and super on the line. If the stock market then fell by 10% they were told to put in more cash and buy more shares, because shares were cheap. If the market rose by 10%, they were told to borrow more money and buy more shares to maximise their gains. Storm’s computer system reviewed clients on a regular basis and sent out notices en masse, telling people to take the next “step”. Thus, in May 2007, as the market rose, 438 clients were stepped up; in July it was 787; in August 878; in October 787 and in December another 400–500. As far as one can tell, practically everyone did what they were told without demur.
There were two main problems with this approach: first, investors generally didn’t earn enough to cover their interest payments; and second, the gearing effect meant they would lose everything if markets went down by 30–40%, which they did (and more) during 2008. The strategy worked famously for Storm, which collected a fat 7% fee every time more money was invested.
As Ron Jelich put it in his evidence to the parliamentary inquiry, “Clients became nameless cogs in a giant money-making machine. I can see now that Storm and the banks saw the client base as a resource that could be tapped for more and more money. In essence, the best interests of the clients were subjugated to the best interests of Storm and the banks. I am now ashamed that I did not take a stronger stand with Storm Head Office on behalf of my clients.”
Townsville investor Phil Green told me in January 2009 that he had paid $700,000 in fees and interest to Storm and the banks during the ten years he was with them. He earned $46,000 per year from his job at Townsville Court and owned a house worth less than $400,000 but he had been loaded up with $1.8 million in debt to fund his share portfolio. I asked him how he was going to pay the interest on that. He replied: “From day one they [Storm] told me it would fund itself.” How did he know? “That’s what they told me.”
In fact, the sums could only begin to work for Phil if the market rose by at least 4% per year. He needed that just to service the loans, and would have needed even more to pay the fees. In the good times from 2003–07, the market did rise continuously but Storm kept doubling him up until the crash of 2008, and then kept increasing his exposure throughout that year, as the markets sank. He looked likely to lose his home, his super and his marriage.
Fortunately, he has held his family together and has been offered a settlement by Commonwealth Bank that would allow him to keep his house. But he’s still reeling from the shock of it all. He’s heard that another Storm investor committed suicide over Christmas. I ask him how he’s coping. “I’m taking it day by day,” he tells me.
Another Townsville investor, Steve Reynolds, received similar advice. A Vietnam veteran on a disability pension, Reynolds had negligible income but was able to borrow $420,000 on his house from BoQ and another $750,000 from Macquarie to invest in shares. His loan application documents for BoQ record his income as $100,000 per year. Reynolds says he was asked to sign blank forms and that someone then fiddled the figures. According to Ron Jelich, this happened to many Storm clients: “Paperwork relating to loans was often subject to ‘creative’ manipulation,” he told the parliamentary inquiry, “particularly in relation to income and assets.”
Steve Reynolds’ loan came from BoQ’s North Ward branch in Townsville, which was owned by franchisees Declan Carnes and Matthew Buchanan, whose company, Senrac Pty Ltd, is the third defendant in the ASIC case against BoQ and Macquarie. The North Ward branch was BoQ’s star performer, winning the titles ‘Best Branch’ and ‘Best Manager’ in the years 2005 and 2006. Now we know how it did it – by breaking the rules and lending money to borrowers who could not afford the repayments. In 2006 it exceeded its loan budget threefold.
Commenting on the victory in October 2006, BoQ’s managing director, David Liddy, congratulated Carnes and Buchanan on their “passion, achievement, courage, integrity and team work”. But by January 2009, at the latest, Liddy and his team at BoQ knew this wasn’t the only way the dynamic duo had exceeded their targets.
As Ellen Fanning revealed on 60 Minutes in June 2010, an internal review conducted by the bank’s head of credit risk just after the collapse found borrowers from the North Ward branch had not been interviewed face-to-face by the bank, while the figures on some loans had been cooked. Or, in the words of the review, “It could be construed that income and ongoing commitments may have been manipulated to achieve approval.”
The BoQ review examined the Reynolds case and concluded that his stated $100,000 income was “obviously not true”. It also noted that his $750,000 margin loan with Macquarie had been ignored in calculating his assets and liabilities, and his capacity to service the loan, while 5% of his share portfolio had nevertheless been counted as annual income. The review noted other cases in which this had happened, some of which are now included in ASIC’s claim.
However, none of this convinced BoQ that it needed to settle with investors, as Commonwealth Bank soon did. Indeed, in June 2009 BoQ told the Australian Securities Exchange: “Based on the Bank’s knowledge and enquiries to date: There is no evidence of improper or dishonest practices or conduct by the Bank in connection with Storm clients.”
Three months later, David Liddy assured the parliamentary inquiry, “If there was wrongdoing in the [North Ward] branch and we had identified wrongdoing, we would take action.” At this point, the bank’s internal credit review had not yet surfaced. Indeed, it did not see the light of day until May 2010 when the Queensland Supreme Court ordered the bank to produce it.
Other banks also gave Storm customers special treatment and had close relationships with Cassimatis. One senior executive at Macquarie, Mickey Perret, even accepted Christmas presents from the man he called ‘Manny’. More substantially, Macquarie Bank drew up a 13-page agreement in December 2004 headed “Working in Alliance”, in which it agreed to charge Storm clients lower interest rates, allow them higher loan valuation ratios and provide extra time to meet margin calls. This allowed Storm’s investors to gear up further and take bigger risks. It also exposed them to greater danger when the market plummeted because their investments fell further in value. Indeed, it was one of the main reasons so many Storm investors ended up with negative equity.
Colonial (owned by Commonwealth Bank) also offered lower interest rates and higher loan valuation ratios and was super keen to get Storm’s business. In mid 2007 it spent heavily to sponsor a glamorous gala for Storm investors in the fifteenth-century Odescalchi Castle in Italy, where celebrities Tom Cruise and Katie Holmes were married.
These close and co-operative relationships will get a work-out in ASIC’s second damages case – against Storm and the banks – that alleges Storm was running an unlicensed managed investment scheme and that the banks were “knowingly concerned” in this illegal activity. If ASIC can convince the court of this, it can then seek orders for compensation. However, experts I consulted aren’t confident that ASIC will be able to prove its case or show that it caused investors to lose money. The practical difference is that ASIC would have known more about what Storm was doing if the company had filed a prospectus, as licensed investment schemes are required to do. But it’s hard to believe ASIC would have closed Storm down or issued warnings strong enough to deter investors.
It seems Storm’s clients did exactly as they were told. They stumped up cash again and again, even as the market fell. Trusting their advisers, they walked into the fire. Quite reasonably, they may also have put their faith in ASIC, which gave Storm the government’s tick of approval by licensing Manny and his boys to dispense financial advice.
Licensing is the rock on which ASIC’s regulation of the financial planning industry is founded. If you visit the regulator’s website you’ll see dire warnings of the dangers of taking advice from an unlicensed financial planner. But the experience of the Storm case suggests a licence from ASIC doesn’t necessarily make investors safe. Those who lost hundreds of millions of dollars in property group Westpoint also found little protection.
In its defence, ASIC says it can’t be expected to police everyone, but if its army of public servants were unable to notice there was something very wrong with Storm, you wonder why it’s in business. Storm was one of the biggest financial planning networks in Australia, with 115 staff, $4.5 billion of funds under management and 14,000 clients (of whom 4000 were already ‘Stormified’ and using the one-size-fits-all model of investment). The group had a highly visible and aggressive marketing campaign, with TV ads, weekly seminars and enthusiastic endorsement from the ex-Australian cricket coach John Buchanan.
Its founder was also high profile. He lived in a white, five-level house on the most prominent hill in Townsville and commuted to Brisbane in his personal Learjet. In 2007 he harvested $24 million in dividends for him and his wife. All of this was financed by the highest fees in the marketplace.
On top of this, ASIC actually received complaints about companies associated with Cassimatis and his high-risk approach in the early 1990s but did nothing. It then received further complaints about Storm in 2006 and again sat on its hands. Even in late 2008, by which time Storm’s investors had lost their shares, their houses and their super, and the company was on the brink of insolvency, ASIC still wasn’t interested. In mid December that year I rang ASIC to ask what action they were taking and was told: “We’ve had a few complaints but we’re not investigating.” They eventually got their boots on two days before Christmas 2010.
As BoQ said on the day ASIC’s legal actions were finally announced, roughly 18 months after Slater & Gordon filed its first damages suit on behalf of Storm investors, “We have every sympathy for customers who lost money … We too put faith in the regulatory system and can understand our customers’ frustration at the collapse of a financial planner that had the tick of approval from government regulators.”
On that point at least, you have to agree. It’s time for some answers on what’s wrong with ASIC and why it can’t do better.
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