View from City Road: Baring takes a giant leap - thanks to Abbey
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Your support makes all the difference.Abbey National and Baring Brothers set City tongues wagging yesterday when they announced a joint derivatives venture 'to provide risk management services in the currency and interest rate swap and option markets'.
It was not so long ago that Abbey was a dull but worthy building society, and many must be wondering just what such an institution is doing getting mixed up in the electronic casino of futures and options.
Surely this was just the sort of speculative scheme on which the Building Societies Commission would have stopped Abbey from embarking?
What Baring gets out of Abbey National Baring Derivatives (ANBD) is obvious. Baring is a traditional British merchant bank and as such has a meagre capital base by US investment banking standards.
It can only look on enviously as its American cousins earn hundreds of millions of dollars in the fast-growing derivatives markets - markets that are enjoying the kind of explosive growth that the Euromarkets experienced in the 1960s and 1970s.
The trouble with futures, options and swaps is that they all require a counterparty that has a strong credit rating.
To put it crudely, you have to be fairly sure the other guy is going to pay up at the appointed hour.
Institutions that use derivates to hedge against movements in exchange and interest rates rely on ratings from Standard & Poor's and Moody's. And Baring is not listed by either, simply because its capital base is too small.
So, by borrowing Abbey's splendid long-term credit rating of AA, Baring has in a single leap joined its bigger brethren in the lucrative global derivates market.
The joint venture will consist of 25 people from Baring and five from Abbey to start with, in a separate office set up by Baring in Bishopsgate. Both parties insist that ANBD is not speculative and that neither party will deal on its own account.
The idea is that ANBD will act as an intermediary. It will also provide a measure of vertical integration to Abbey's own treasury unit in that Abbey will be able to use ANBD for much of its own hedging needs, although Abbey insists that it will only use ANBD if it provides the best quote.
Similar link-ups between institutions with good credit ratings and derivatives specialists are common in the US, although this will hardly comfort those who fear that Abbey is sailing into unknown waters.
Fresh from dropping nearly pounds 250m on the Cornerstone estate agency fiasco, it is hard not to suspect that Abbey is getting involved in another trendy idea with unknown risks.
There is a widespread suspicion that derivatives could do for banks in the 1990s what Third World debt and property lending did for them in the 1980s.
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