Sunday, 30 April 2017

Irrationality of the LOBOs: Open letter to the Council's Auditors, Grant Thornton

Dear Sirs,

In your consideration of the 'irrationality' argument (raised by an objector to the accounts of the Council and the legality of the LOBO loans) I would be obliged if you would consider these factors:

1. As Cornwall Council has only a very short period to 'agree' a replacement interest rate with a LOBO bank counterparty its only practical option may be to repay the loan early.  It now acknowledges that it may need to hold £60m to £100m in short term deposits (which currently pay almost no interest) against the possibility of that eventuality.  As borrowings are made to finance capital expenditure that does not seem rational.

2. I have never seen a schedule of all the call option dates to judge what the exposure at any time is to LOBO bank calls. The schedule published shows the next option date for each loan but not the totality of the impact of option dates over the years concerned. So councillors have no precise knowledge about whether the 'perfect storm' referred to in the Council's Annual Treasury Management Strategy  (Council minutes 21 February 2016) may be avoided and whether the 'float' of £60m to £100m is sufficient.

3. Fundamentally, the  Council believes that it is not really exposed as a result of the banks' options as, provided it holds enough money in short term deposits, it can simply refinance elsewhere. 

However, it is likely that the banks would only exercise their option when market rates rise above the rate payable on these loans.

The real risk is that the banks would opt to revise the rate at a time when market interest rates rose. Of course, the Council could then repay early but when it refinanced elsewhere it would pay the new market rate anyway. 

Further, the ability to periodically increase the interest rate by the banks is a ratchet: It never comes back down even if market rates later drop. 

So, overall for a reduction in the introductory rate on the loans for a short period of varying length, the Council agreed to borrow from the banks on terms such that the interest rate can never reduce but can rise without limit. And the Council compares this (favourably) with PWLB or other fixed rates which cannot go down or up? It then locks itself into this arrangement for up to 60 years? 

It looks irrational to me. Even now councillors do not understand how astonishingly unwise these deals were.

Yours sincerely
Fiona Ferguson CC

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