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Barclays shares: a simplified precis of the current problems

Barclays is struggling with the impact of its Structured Notes blunder that could cost more than the headline £450 million fine.

Barclays (LON: BARC) shares entered 2022 at 200p and rose to 217p by 13 January. But as sentiment shifts, they have now cratered by 35% to 141p today.

Barclays share price: problematic blunder

Barclays reported full-year net profit of £6.38 billion in 2021, far ahead of the Refinitiv average analyst expectation of £5.75 billion. It was also nearly four times higher than the £1.53 billion profit it generated in 2020, when the global economy was still suffering the covid-19 pandemic.

But last November, CEO James Staley left the FTSE 100 bank following an investigation into his relationship with the late Jeffrey Epstein. However, Staley was replaced with the well-respected Chief Risk Officer, CS Venkatakrishnan. And with the Bank of England continuing to tighten monetary policy, 2022 seemed set to be another profit-busting year.

But a far bigger problem was around the corner. Its origins began in a little-reported scandal in May 2017, when the US Securities and Exchange Commission (SEC) fined Barclays $97 million after accusing it of overcharging thousands of clients by nearly $50 million. The bank duly paid the fine ‘without admitting or denying the SEC’s findings,’ and continued on its normal business.

An important part of this business is its trading in structured notes, with some analysts estimating the bank sells between $10-$15 billion of the product every year. As complicated savings products legally designated as debt, every sale has to be registered with the SEC.

However, to reduce bureaucracy, sellers can file a ‘shelf registration,’ allowing them to sell as many as they like without registering the sales up to a pre-defined limit. And before 2017, Barclays enjoyed ‘well-known seasoned issuer’ status, which meant that its upper limit automatically increased whenever it was exceeded.

However, after the overcharging scandal, it appears the SEC stripped Barclays of this premium status. This meant that when the bank filed for a new $20.8 billion limit shelf registration in summer 2019, it didn’t qualify for the automatic limit increase. But for reasons yet unknown, Barclays seemed unaware of this issue.

Accordingly, it blew past its limit by $15.2 billion, only discovering the mistake last month. On 14 March, the bank announced it was suspending sales of structured notes that tracked either the Vix volatility index (VXX) or crude oil (OIL).

Damage control

After reporting the mistake to the SEC, Barclays is issuing a ‘recission offer’ to buy back all the oversold notes at their original price, incurring a £450 million loss after tax. On the surface, damage may appear limited due to its ‘short-term hedging arrangements,’ but the harm may not stop there.

Because of the way the structured notes work, VXX and OIL values separated from their underlying indices. Barclays is unable to issue new shares to reflect the heightened demand caused by the publicity, so their share prices are exceeding their Net Asset Values due to the shares’ scarcity.

There’s also an uncomfortable question over the extent to which Barclays will be held liable for any compensation. The recission process alone will be administratively difficult.

Moreover, many investors have shorted VXX, believing that when Barclays is allowed to restart its US structured notes division, the premium on the index will evaporate. And many traders have suffered collateral damage from the bank’s incompetence, hitting its already damaged reputation.

And while Barclays remains ‘committed to its structed products business in the United States,’ it’s losing millions from the frozen US unit. And with the SEC breathing down its neck, other errors that may have stayed hidden could come to the light.

Then there’s the reputational damage suffered by its new CEO to consider. Venkatakrishnan was a risk specialist at JP Morgan for more than 20 years, and formerly held the position of Chief Risk Officer at Barclays.

Investec analyst Ian Gordon believes the blunder ‘embarrassing in the extreme.’ Meanwhile, Shore Capital analyst Gary Greenwood hopes ‘this proves to be an unfortunate one-off event and isn’t representative of a lingering cultural malaise at Barclays.’

A top investor sold 599 million shares worth $1.2 billion the day after the mistake was announced. Its £1 billion share buyback program is being delayed, and Q1 results are likely to be hit hard.

And the £5 million 2021 pay packet of long-time CFO Tushar Morzaria, who announced his departure in February, is in jeopardy, with some investors attempting a clawback in wake of the error.

But despite this embarrassing and costly blunder, the bank is set to benefit hugely from the tightening monetary environment. The Barclays share price may recover from its sharp fall soon.

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