Royal Bank of Canada (RBC) has denied allegations that it committed stock manipulation to avoid paying high yields to investors on maturing equity-linked securities in April 2009.
Earlier this month, the Supreme Court of South Korea accepted a class action by two Korean investors against RBC over the management of underlying assets as the derivatives counterparty for Hanwha Smart ELS 10, which was launched in 2008.
“RBC has fully cooperated with the Korean authorities regarding this matter. And we maintain that the sole purpose of the sale transaction was to unwind a legitimate hedge,” said RBC in a statement. “We remain committed to operating with the highest level of integrity, ensuring we conduct our business responsibly and honestly and in the best interest of our clients.”
Local law firm Hannuri Law firm claims that RBC sold 70,000 SK Holdings shares 10 minutes before the market closed, which resulted in a capital loss for 437 investors of 25.4% or KRX3.26bn (US$2.9m).
“The case was brought up by the Korea Exchange initially and the Financial Supervisory Service (FSS) was called upon to conduct the investigation,” said Seong Hyun Song, an attorney at Hannuri Law firm. “After the FSS concluded that the back-to-back hedge provider, RBC, is suspected of stock manipulation by executing large block trades on the maturity date, the case was forwarded to the public prosecutor’s office.”
Hanwha Smart 10 was sold in 2008 by Hanwha Securities and raised KRW6.8bn (US$6.3m) in sales. The product featured a basket comprising the shares of POSCO and SK Holding and promised to pay out at maturity a 22% fixed coupon if both shares in the underlying basket were at or above 75% of their initial levels and had not fallen below 60% of their initial level.
While the SK Holding share was trading at 76% of its strike level 10 minutes before the market closure, a large block selling order was triggered, resulting in a sharp plunge of the share price which breached the ELS’s protection barrier.
Hannuri Law’s claims were rejected in the first and second trials, but the Supreme Court has overruled the district and high courts and sent back the case to the High Court.
“As the Supreme Court has sent back the case to the high court, their decision for final approval will allow us to make the case as group litigation,” said Song.
The FSS, said SeungGun Ahn, head of derivative products investigation team at the FSS, forwarded the case to the public prosecutor’s office in December 2014 on the basis of stock price manipulation.
“The case should be viewed separately from the group litigation approval,” said Ahn. “The case of whether the RBC is liable for stock manipulation is still pending for judgement, and the approval of the group litigation is related to compensating damages caused to the investors in Hanwha Smart ELS 10 when the court announces the final decision.”
“I believe this case is not only the first class action that is agreed by the Supreme Court but will also be the first case in the country where the decision will depend on whether the juries will view the delta hedging activity claim by RBC as legitimate or not," said Song.
While the liability for damages will be established as the case proceeds to the next stage, the Supreme Court move has turned around the conservative attitude by lower courts when dealing with such cases and it will set a useful precedent for other cases involving ELSs which are still pending for courts’ decisions, Hannuri Law.
Hanwha Securities stated that the firm was only involved in the distribution of the product and was not involved in any stock manipulation, adding that it did not commit any offence and is not liable for any sanction.
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