Federal regulators are casting a wide net to determine whether banks are illegally tying traditional lending products to investment banking assignments.
Federal Reserve Board officials have met with the Securities and Exchange Commission to discuss complaints the SEC has received about the issue, Richard Roberts, an SEC commissioner, said in an interview Thursday.
OCC Confirms Probe
The Office of the Comptroller of the Currency confirmed this week that it is investigating charges that some banks provide letters of credit to municipal bond issuers only if these banks can participate in the underwriting.
Such contingencies would violate "anti-tying" provisions of the Bank Holding Company Act of 1970.
Congress also is pressing for investigations.
Rep. John D. Dingell, D-Mich., chairman of the House Energy and Commerce Committee, which oversees the securities industry, also has asked the Fed to respond to reports that is is studying the tying of credit services to activities such as underwriting and swap assignments.
Rep. Dingell expected a Fed response by today, his office said. A Fed spokesman would not comment on whether there is a formal investigation.
Mr. Roberts said he experts to address the tying issue in a speech Monday to members of the Securities Industry Association. He plans to urge them to quickly send their complaints to regulators. Though such complaints have focused on the municipal bond area, Mr. Roberts said that in recent weeks he has heard allegations of tie-ins in the corporate bond business.
He said he referred these complaints to the OCC.
The regulatory stir comes at a sensitive time for the Fed. Just a few months ago, the regulator proposed expanding limits imposed on the "Section 20" bank subsidiaries that underwrite and deal in securities. The Fed is considering permitting the units to derive more than 10% of their revenues from securities activities.
Charge by Morgan Stanley
Sources said that units of Bankers Trust New York Corp. and J.P. Morgan & Co. have been bumping up against the limit.
Indeed, Morgan Stanley & Co. charged in a comment letter to the Fed that "commercial banks and their Section 20 affiliates are abusing the existing [underwriting] authorization" and winning deals through tying arrangements.
"The basic theme is the same," the letter alleged. "A bank with substantial credit leverage over a corporate borrower managed to convey to the borrower that it would be unwise not to give the bank's securities affiliate a major role in a proposed underwriting, or in some other activity traditionally handled by investment banks under the separation of commercial banking and investment banking."
This Aug. 27 letter said banks that were lead lenders in the 14 largest corporate recapitalizations of the past 18 months ended up as manager of a related tender offer in eight of them. "This high correlation far exceeds the frequency with which banks' securities affiliates are selected for these major roles in the absence of a credit relationship," it charged.
The few banks that have actively pursued stock and bond underwriting assignments denied charges of tying.
Banker Trust's Rebuttal
"Any suggestion to the contrary is entirely false and should be seen as a continuation of the Securities Industry Association's campaign to rid itself of banking affiliate competition," Bankers Trust said in a statement.
Indeed, Morgan Stanley and its fellow accusers offered little hard evidence to support their charges. The Wall Street firm said its hands are tied because of its own dependency on bank funding.
"We don't want to create needless stress in the relationships with banks," said Philip Lacovara, Morgan Stanley's general counsel.
The firm did offer one specific example in its comment letter. A term sheet from National City Corp. on a letter-of-credit agreement backing an industrial revenue bond issue, it said, contains this proviso: "The proposed credit enhancement is subject to National City Financial Corporation representation as agent of marketing of bond issue."
National City Being Probed
Officials at the Cleveland-based bank company confirmed that the Fed is investigating the charge, which was made by a competitor rather than a customer. A bank spokeswoman said the bank is cooperating with the investigation.
Many other complaints also revolve around municipal issues, according to Mr. Roberts at the SEC.
"I don't mind them competing with us on a level playing field," Thomas Harris, senior managing director for Alabama-based Merchant Capital Corp., wrote Mr. Roberts in a June 2 letter. "That's where the best man wins, and we usually do, nine out of 10 times. But when they tie one service to the other, then the playing field is not level."
Mr. Harris also complained that, once a bank has an issuer "hostage on the credit side, they can do what they damn well want to on the other side."
Owen Carney, senior adviser for investments at the comptroller's office, said agency employees met last week to determine the validity of such complaints.
"Do the complaints warrant more inquiry?" he asked. "The answer is probably yes." However, he warned, "just offering a variety of services at one time" is not necessarily illegal.
