4-08-08, 9:58 am

Original source: The Guardian Australia

Opes Prime was what is known as a leverage broking firm, one based on a high level of debt. Clients of Opes could borrow against the shares they purchased — the shares would be used as security, in a somewhat similar fashion to a home loan where the home is used as security in the event that the borrower fails to make repayments.

Borrowing against shares, however, is a much more risky business — share prices can be much more volatile than housing prices. But that is not the only difference to a home loan. The shares that Opes clients thought they owned were pledged to the banks where Opes borrowed the money that they lent to their clients. Unbeknown to the investors, their shares were being used by Opes as collateral (security) for Opes’ bank loans.

In addition Opes was involved in margin lending.

Margin lending is an unsavoury, high-risk practice, which is becoming more common. The borrower secures a loan with assets of a certain value. If the value of the assets falls, in this case the market price of shares, then the lender can retrieve the gap between what is owed and the new lower value of the shares. Finding the money to cover this gap can create financial problems and often involves the sale of other assets.

Margin lending itself is a risky enough business but Opes apparently went much further than that. It was lending money for clients to buy short. Buying short amounts to gambling — it involves selling shares before you own them, on a falling market and then quickly buying the shares to sell at a lower price. A large sale of shares in itself can push the price down.

But that was not all. Reports suggest that Opes was much more creative in its operations. Favoured clients were allowed to 'go short' by a method which looks decidedly fraudulent. They could go short by 'borrowing' shares from the pool of equities held by Opes as security from other investors and selling them. This time the investors were gambling with other people’s assets!

What’s more, these other investors did not realise that their stock was being lent and sold on the markets, not until Opes was put into the hands of the receivers after riding high on a robust share market and mining boom. The Australian Financial Review reports that court documents show that its chief executive Limin (Laurie) Emini was shifting shares between client accounts to cover mounting losses for some clients who would have faced large margin calls.

The Australian Securities Investment Commission (ASIC) told the court that there appeared to have been a 'systemic manipulation' of client ledgers.

Banks come first

ANZ, Merrill Lynch and Dresdner Kleinwort seized the shares of Opes clients — with a total book value of $1.4 billion — in an attempt to retrieve $1.1 billion of margin debt.

It came as a very unpleasant shock to investors that the shares that they had put up as security could be sold by ANZ, to cover Opes’ debts. In addition, the sale of large amounts of stock can see the price of those shares fall, and this is what happened. More than 500 companies listed on the ASX have some sort of exposure to Opes, and trading in 23 of them was suspended last week following dramatic falls in their share prices.

One investor who had a $2.2 million margin loan, learnt to his horror that without his knowledge his shares had been sold off. His entire lifetime portfolio had gone. It is up to the courts as to what happens now. It is a lawyers’ picnic with banks claiming that ownership of the shares had been transferred to them, while Opes clients say promotional material promised that 'The investor retains beneficial and economic ownership of the lent stock including full exposure to dividends and corporate actions, and exposure to market risk….'

Opes clients have in effect become unsecured creditors to the banks to the tune of $1.1 billion. Some of them have started court proceedings to try to stop the sell off of their stock.

Questions are being asked about the role of ASIC, the stock exchange (ASX), and banks. Media commentators describe the markets as being an unregulated shambles, with little transparency and no protection from crooks and their fraudulent practices.

So what are they suggesting be done about it? Tighter regulations, outlawing of short selling and margin lending? No. None of that stuff — this is capitalism and you must not interfere with the markets or risk-taking. Risk — gambling and fraud — is an integral part of the system.

Call it farce, stand back and laugh at the comic nature of the system. Unfortunately there is a tragic side to this — workers’ jobs and retirement savings are at risk as companies go bust, share prices collapse and the crooks make off with millions dollars of their money.

From The Guardian Australia.