FSA report shows Johnny Cameron, the head of investment banking behind the aggressive expansion into CDOs, did not know how they worked
Johnny Cameron, the former head of Royal Bank of Scotland's investment banking division, has admitted he did not know how billions of pounds of complex loan structures linked to US sub-prime mortgages worked – despite pushing his staff to expand aggressively into this area.
The astonishing admission came during an 18-month forensic investigation into his conduct by the Financial Services Authority, which ended in him agreeing a year ago to be effectively banished from the City of London in exchange for the regulator promising not to pursue action against him.
Together with the bank's disastrously ill-timed £49bn breakup bid for Dutch rival ABN Amro in 2007, a pattern of poor decision-making in Cameron's investment banking division was identified by the FSA as the prime cause of RBS's near collapse in October 2008, requiring a £45bn taxpayer bailout.
Cameron told the FSA: "I don't think, even at that point [May 2007, well after sub-prime problems had begun to spiral in the US] ... I had enough information. Brian [Crowe, his deputy] may have thought I understood more than I did ... And it's around this time that I became clearer on what CDOs [collateralised debt obligations] were."
For 2007 and 2008 RBS made losses of £2.5bn linked to structured credit, including CDOs.
Meanwhile, FSA interviews with RBS board directors found they had been united in collective enthusiasm for the record-breaking bid for the ABN Amro. The report also found they were naively untroubled by the lack of due diligence that executives were able to conduct before agreeing the deal. The regulator said the size of the deal combined with the lack of visibility on the risks involved made it "a gamble".
The report also noted that the board's investment banking advisers, led by Merrill Lynch's Matthew Greenburgh, were "largely remunerated on a success fee basis". As a result, it is "difficult" to argue that the advice they gave was independent.
Cameron, then head of RBS's investment banking division, told the regulator that he now acknowledged that the board was complacent over the risks the ABN deal entailed. "After we bought NatWest [in a hostile takeover in 1999/2000], we had lots of surprises, but almost all of them were pleasant. And I think that lulled us into a sense of complacency around that."
The report calculates that the Edinburgh-based bank's capital cushion would have been just 2% following the takeover of ABN – it is 11.3% now – and that if the new capital rules imposed internationally since the banking crisis were imposed retrospectively, RBS would have been short of capital since the end of 2004.
The FSA admits that it had expected RBS to rebuild its capital ratios over three years and not considered whether it should block the takeover.
Although the acquisition of part of ABN was identified as the single largest poor decision made by RBS, the regulator was keen to stress that there were a series of bad judgment calls at the bank, in particular from Cameron's division.
In June 2006 RBS decided to launch a big push into complex US loan structures linked to sub-prime mortgages. The board feared being left behind in this fast-growth area and asked Cameron to lead the catch-up. The timing could not have been worse.
An email, sent by Cameron's deputy Brian Crowe, set the tone: "The board has been very bullish across all the [investment banking] business in wanting to avoid the defensiveness in approach that we tend to adopt, and to be more aggressive and ambitious." Within months these would emerge as some of the most toxic financial instruments in the banking crisis.
In the meantime, however, RBS appeared to be doing well and was named North American Securitisation House of the Year.
When the market soured dramatically RBS was slow to respond, believing that the investor reaction was overdone and that the cost of hedging against further losses was too dear. Cameron told the FSA: "To hedge, you were effectively locking in a loss that might never occur ... We always seemed to be thinking: 'Oh, It's too late now – if only we'd hedged last week."
In 2008 the bank posted a pre-tax loss of £24bn – the biggest in British corporate history.