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Bank crisis: The road to hell (4)

The committee, in addition, noted that the proposed raising of the minimum capital requirement to N25 billion is likely to have adverse effect on investors, as a reduction in shareholders value is imminent —Report of Committee established by the Chartered Institute of Bankers on Consolidation, 2004.


It was beautiful and simple as all truly great swindles are —O. Henry, 1862-1910, in The Heart of the West, (Vanguard Book of Quotations, P. 239).

MARGIN loans which had a honoured tradition for           investing in capital markets world wide became in Nigeria another swindle by Nigerian banks partly leading us on the road to hell. Read on.  Lemmings are rodents known by nature scientist for one habit. For some inexplicable reason a lot of the creatures leave their natural habitat and go rushing towards the water front and dive to their deaths in great numbers. Till today scientists have not figured out why they do it.

But, if you think lemmings are stupid consider human beings. I was at the National Stadium, Surulere, on the night over thirty people perished at one gate which was not opened in time and which the pressure of people forced open. As a result, those in front fell with the gate and were trampled to death by those rushing from behind. But, those are “low class people”.

How about those “intelligent” people who jump up and clog the isle as soon as a plane lands even though they will later spend hours waiting for their luggage at the arrival lounge? The truth is: there is something called “herd mentality”, or if you like, “group-think”. It occurs when a group of people for some reason act in the same way, however ridiculous or self-destructive, with respect to certain external stimuli.

You are now wondering what this has to do with banks and the margin loans they gave out and how herd mentality, in addition to the frauds committed, helped to break the banks.

Then let us again go down memory lane because all the activities to be described and analysed happened before our eyes but few of us understood what was going on. We mistook fruits that were rotting for those that were getting ripe. The announcement of consolidation, as it was made clear in the first three parts, let loose a lot of demons in the financial system – few of which were foreseen by the CBN.

Even, the critics of the programme and implementation, like the bankers committee, which predicted possible adverse consequences failed to forecast the enormity of the calamity.

The race to become the biggest bank was a surprise and the desperate attempts made to raise share capital, at all costs, as well as generate deposits in sufficient volume to justify the vastly increased capital base was not known. When a bank’s share capital sky-rocketed from N7 billion in 2004 to N270 billion in 2009 or 3800 per cent reasonable economists ask themselves where the deposits to match this frightening growth would come from.

Indeed, people should have asked, but didn’t, where the money was coming from to fuel this capital growth. As it turned out, it was partly coming from the banks themselves and partly from thin air. In fact, at one point, the line between the legitimate banks, licenced by the CBN, and the “Wonder banks” became blurred – thanks to margin loans.

Margin loans, like, presidential form of government, is one of the ideas which have been tried and proved to be positive engines of growth elsewhere in the world but which in Nigeria don’t work – because of the way we are. In plain language, as usual devoid of professional jargons, this is the way margin loans work. An investor having shares traded on the Stock Exchange worth N100 wants to use the shares as collateral to raise a loan.

The bank will assess the security for risks involved in the share prices dropping and might decide to lend the customer N50. The remaining N50 being the margin for risk being taken by the bank. If the price of the shares should fall below N50 during the tenor of the loan taken, the customer must deposit either more securities or pay some money to the bank immediately to cover the shortfall.

Until, the global financial meltdown, bankers and customers alike have enjoyed this facility worldwide – including Nigeria. As every one knows, share prices can only go three ways – stay where they are, go up or go down. When they go up, the bank and the client have no problems; similarly when they remain static. The problem starts when they go down; especially when they go drastically down.

And all was reasonably well with the financial system until consolidation which made it imperative for banks which wanted to remain in business to raise huge amounts of capital to qualify.

That invariably meant going to the capital market to raise the money. In the past at most three banks were in the market at the same time. But, by December 2004 and early 2005 virtually all the banks were in the market shopping for funds – which they were not sure of getting; unless they took extra-ordinary measures. Everything boiled down to ensuring that the IPO issued was fully subscribed; and the end justified the means.

Unfortunately, for the banks, Machiavellism works if only one or a few practice it; it wreaks havoc when it becomes the norm. Notice how one driver breaking the law in the hold up gets away with it; but with everyone imitating, a total breakdown occurs. There is an obscure economics principle which explains it all. It is called fallacy of composition. Thus when all the banks were in the market at the same time, playing the same games – fair and foul – the people at Jankara university knew the nation’s banking system was headed for trouble. There was simply not enough legitimate money loose in the country to satisfy all the needs of those guys in designer suits wanting to take us to the cleaners. The typical scam took this form.

First, the bank goes to the capital market with its own money, and with the assistance of complaisant stock brokers, starts to manipulate its own share prices through the instrument called crossing. All that was required to increase the price of any commodity by five per cent in one day was to “cross” 5000 shares through a “willing seller and willing buyer”deal.

Since the bank was both the “seller” and “buyer” there was no problem. In a few short weeks the banks share prices would have doubled or tripled. Then, it was time to announce the IPO with prospectus pointing out to how the bank’s shares have grown by 300 per cent or more in a short while and extrapolating from that current figure to a more glorious future for the prospective investors.

That bit of sleight of hands, like a magician’s tricks brought some successes. But, it was not sufficient – because people either did not have or were reluctant to commit more funds to the capital market in general and the banking sector in particular. The next thing was to lure people into investing in banks’ shares by promising them risk-free loans – margin loans.

Imagine, being told that you could acquire ten million naira worth of bank shares, whose prices have appreciated by 300 per cent in four months, by making a deposit of only two million five hundred naira now, and in four months time your shares would be worth thirty million; you can repay the loan and still have twenty million left. That was the sum total of the offer made to millions of Nigerians;

playing on our greed – the instinct to have something for nothing. Again, what few people asked was the simple question: if all the billions of shares on offer by the banks were sold, where would the money to pay for the promised 300 per cent appreciation come from? Surely, it would not from the mint; because it would have amounted to more than the national budget for two years. The second question is: did the bankers themselves believe it?

The surprising answer is: not really. And that partly explained why after issuing the IPOs and getting people to subscribe they failed to release the share certificates on time. They knew that the game was up; the promised appreciation had become a mirage and the reduction of shareholders value was indeed imminent. The global financial meltdown only hastened a crash that was already underway before 2008.

Few people could resist the pressure piled on by bankers and the stock brokers to whom they also provided loans to pass on to their clients. Incidentally, nobody at Jankara University bought a single share with margin loans; the signs of a scam was all too clear. After a while the banks could no longer restrain themselves because they had committed themselves so much.

And in order to generate deposits to match their over-bloated capital bases they prostituted their female marketing staff, got engaged in many non-core banking activities, embarked on mutually nullifying sales promotion campaigns and when all else failed started de-marketing in order to knock out their competitors. Few people who had GSM sets failed to receive unsolicited text messages providing negative reports about some banks.

Since the share prices, at the peak, last year were artificially induced, the fall in share prices which preceded the change of guards at the CBN meant that virtually all those who borrowed to purchase shares were in trouble because the sharp drop was not anticipated. Today millions of Nigerians are sitting on shares whose current prices guarantee them huge losses if sold today.

And, most investors are also owing their banks loans which many cannot now repay. Even dividends, which should have helped somewhat in repaying the loans are not forthcoming. Oceanic Bank declared no dividend before its annual general meeting scheduled for Tinapa had been postponed by the new management.

It is unlikely that any dividends will be paid. Even the bonus shares declared might be ruled out. The banks want to recover the loans; the borrowers point accusing fingers at the banks for putting them in this predicament and most are prepared to offer the banks the shares they hold. It is the sort of dead end to which unethical and unprofessional conduct lead people who should know better. Next week: What is the way out?


Comments expressed here do not reflect the opinions of vanguard newspapers or any employee thereof.