Ethics and governance in the European Financial centers

Some foreign readers of this blog may be surprised by my findings about the disclosure of UBS' OPMEM in the media.

I will state three observations about the functioning of Luxembourg as a judiciary and regulatory haven.

1. Filing a criminal complaint and file of a civil action is a common tactic to stop other procedures before courts.

Because of the principle that "criminal law supersedes over civil laws", 80% of criminal complaints are lodged in Luxembourg to delay justice despite the fact that justice delayed is justice denied.

As far as UBS OPMEM is concerned, as it is an internal document, this may be an opportunity to lodge a criminal complaint and file a civil action to stop some investors' procedures.

Cf. annual report 2008, Ministry of Justice, page 134:

Previous annual reports stated the same thing.

2. Luxembourg courts filter evidences

Courts in Luxembourg filter evidences.

To be acceptable the evidence should be legally obtained and not support a value judgement.

2.1. Legal evidences

There are only a few judgements that are published in Luxembourg.

Of which, the following before the Court of Appeal: N°128/07 XD dated 28 February 2007

The debate was about the evidence before courts. The conclusion is that evidence that is obtained in the framework of an illegal action should not be admitted:

It is true as well in France and in many jurisdictions: but in Luxembourg the abuse of the legal and regulatory framework relating to professional secrecy is not in favor of the truth before the courts.

As I said the business community crafts laws and regulations and especially the extent of professional secrecy. "Shape regulation. An up-to-date, innovative legal and fiscal environment is critical to defend and improve Luxembourg's competitive position as a centre for the domiciliation, administration and distribution of investment funds. Strong relationships with regulatory authorities, the government and the legislative body enable ALFI to make an effective contribution to decision-making through relevant input for changes to the regulatory framework, implementation of European directives and regulation of new products or services."(Cf. Alfi brochure "Your bridge between Europe and China: Luxembourg", October 2009). What is true for ALFI is true as well for ABBL.

 2.2. Value judgements

The author of a book was cited before the Criminal Court by a Luxembourg lawyer for calumny, libel or, at the least, proffering insults, through the publication of a couple of statements in a footnote of the book.

What was said in the litigious footnote: "[Mr N.S.] was known for his contacts with [M.S.] and [R.C.], former bankers for the Mafia and the Vatican respectively (cf. [F.C.] and [L.S.], op.cit. p. 288), and he was suspected of having forged ties with organised crime, particularly in the United States. He also maintained excellent personal relations with [G.A.], dating from the period when he was president of the European Association of Christian-Democrat Students. As Grand Master of the main Masonic Lodge in Luxembourg, he was responsible for admitting [R.C.] to its ranks."

The author was acquitted with regard to three of these statements, but convicted only of the offence of proffering insults on the ground that he had written that "[N.S.] was suspected of having forged ties with organised crime, particularly in the United States". He was ordered to pay a fine of  EUR 1,500 euros and the symbolic amount of one euro to the civil party in respect of damages. The Court of Appeal and the Court of Cassation confirmed: the sentence was considered as a value judgement.

The author went before the CEDH (the "the Court of Human Rights for Europe"): relying on Article 10, he alleged that his conviction for proffering insults had violated his right to freedom of expression. Under Article 6 § 1, he further complained that inadequate reasons had been given in the decisions by the domestic courts with regard to his arguments under Article 10.

Having regard to the modest nature of the sentence imposed and the content of the disputed statements, the CEDH considered that the measures taken against the applicant had not been disproportionate to the legitimate aim pursued. Accordingly, there had not been a violation of Article 10. The CEDH noted that the domestic courts had not explicitly ruled on the applicant's arguments under Article 10 of the Convention. Having examined the reasoning in the decisions by the domestic courts, the CEDH concluded that the applicant did not have grounds for alleging that insufficient reasons had been given for the decisions by the Luxembourg courts, even if, in the applicant's case, more substantial reasoning with regard to Article 10 would have been desirable. Consequently, there had not been a violation of Article 6 § 1.

Dissident opinions of judges found a restrictive conception of the freedom of expression that deny the right to bring evidence (s) when the behaviour of a leader of the jurisdiction is criticised by considering the statement(s) as "value judgement" (Cf. for example Judge Sajô's analysis - CEDH, No 24261/05, BACKES v. LUXEMBOURG, 8 July 2008).

The case was rejected by the Grand Chamber.

Read judgement (French)

3. Criminal liability for legal persons does not exist

The legal framework that is decided by professionals does not organise the criminal lability for legal persons.

As I said, I do not think this is the regulated entities' role to have a very CLOSE AND DIRECT SAY on the evolution of the Luxembourg prudential regulatory environment that is opposable to them, and to exert directly and indirectly LOBBYING initiatives. Such "close and direct say" and "influence" and "direct association "apply not only for the regulator but as well for the parliament (many members of parliament are business lawyers).

The direct consequence is the delay to transpose Recs or regulations despite international commitments.

A very good current example is the difficulty to enforce the criminal liability of legal persons whereas it was possible to change the constitution in a couple of weeks.  

I have analysed in the previous article that the Operating Memorandum (OPMEM) that quotes Madoff over 20 times should not exonerate a collective responsibility in Luxembourg because of the so-called "relevant input" of professionals in the drawing up of laws and regulations that actually opened and facilitated the drift with Madoff.

I would like to lay emphasis on the consequences that result from the public disclosure in the media of an internal document that was not intended to circulate outside the bank.

UBS is a PSF (Professional of the Financial Sector) that is regulated by CSSF. The PSF statute requires confidentiality i.e. respect of professional secrecy (Cf. article 61-22 of law of 5 April 1993 as amended). Because of the disclosure in the media of an internal document that was not intended to circulate outside the bank, there is a reputational risk for UBS.

If I were UBS I would lodge a criminal complaint and file of a civil action.

The key questions to investigate are:
1. Who circulated the OPMEM outside the bank?
2. Did this person inform UBS he/she had the document outside the bank
3. If yes, when (statute of limitation?)?

Anyway the courts should disregard the OPMEM should an investor want to use it against UBS and even stop the procedure because of the principle "criminal law supersedes over civil laws".

Luxembourg as a jurisdiction, after the episode of prosecutions for the disclosure of internal documents in the framework of the Clearstram affair early 2000s, cannot accept the use of the OPMEM against UBS. Even though it is a seducing opportunity to discharge the collective responsibility in the jurisdiction for the so-called "relevant input" of local professionals in crafting laws and regulations.

A very interesting games theory case study...

The French newspaper La Tribune has reported that in the third version of an internal operating memorandum, the name of Bernard Madoff is quoted more that twenty times whereas it appears neither in the prospectus nor in the subscription form even though the subscription form evokes a vague US broker.

And La Tribune to conclude that it is UBS' responsibility to compensate investors. So did many articles based on the operating memorandum.

The story is more complicated in the pragmatic jurisdiction.

La Tribune writes that « Pour sa défense, la banque suisse indique n'avoir qu'un rôle de 'surveillance' » (free translation: "For its defense, the Swiss bank indicates it had only a role of 'supervision'".

As I said, the Luxembourg regulation is influenced by local professionals:

This influence was admitted in 2005:

"The Luxembourg Investment Fund Industry has regularly had a very close and direct say on the evolution of the Luxembourg prudential regulatory environment governing the collective Investment Industry as well as on the introduction of new legislation in this specific field of financial product (...) This influence has been exerted directly and indirectly by the lobbying initiatives taken on the level of the different professional associations, be it ALFI or ABBL , but also and more importantly, trough a direct association with the Luxembourg Supervisory Authorities by means of a number of standing committees" (article "Shaping the regulatory environment". Fundlook, 2005)

Unfortunately nothing has changed and the business community continues on making laws and regulations.

"Shape regulation. An up-to-date, innovative legal and fiscal environment is critical to defend and improve Luxembourg's competitive position as a centre for the domiciliation, administration and distribution of investment funds. Strong relationships with regulatory authorities, the government and the legislative body enable ALFI to make an effective contribution to decision-making through relevant input for changes to the regulatory framework, implementation of European directives and regulation of new products or services."(Alfi brochure "Your bridge between Europe and China: Luxembourg", October 2009)

Among the professionals that influenced the regulator, was the former management of UBS-Luxalpha.

This influence of UBS, that had a direct say on the regulation in Luxembourg like every professional, is traced in the CSSF documents and especially in the composition of  internal committees:

• Alain Hondequin, Executive Director, UBS (Luxembourg) S.A and Luxalpha director was member of the compliance Committee with reputable and competent professionals like Jean-Marie LEGENDRE (Chairman, Association of Compliance Officers), Vafa MOAYED (Partner - Reputation & Risk Leader, Deloitte) , Didier MOUGET (Territory Senior Partner, PwC), Jean-Jacques ROMMES, (Director, The Luxembourg Bankers' Association) Jean-Nicolas SCHAUS (General Manager, CSSF).
• Roger Hartmann, Managing Director, UBS (Luxembourg) S.A.and of Luxalpha was member of the Consultative committee Anti-Money Laundering with reputable and competent professionals like Jean-Jacques ROMMES (Director, The Luxembourg Bankers' Association), Thomas SEALE (former Chairman, ALFI), Lucien THIEL (former director, The Luxembourg Bankers' Association), Pierre Krier (Chairman, Institut des Réviseurs d'Entreprises) and of the Committee Banks with reputable and competent professionals Pierre KRIER (Chairman, Institut des Réviseurs d'Entreprises), Jean MEYER (Chairman, The Luxembourg Bankers' Association), Paul MOUSEL (Partner, Arendt & Medernach Law firm). 

There is a collective responsibility in the wording that opened the drift with Madoff. Article 7 of the UCITS directive states that "1. A unit trust's assets must be entrusted to a depositary for safekeeping". The word "safekeeping" (that is missing is the French version of the article) was removed in the transposition (Cf. article 17 of the Luxembourg Law of 20 December 2002). Above all, Circular IMS 91/75 (as amended by Circular CSSF 05/177) dated 21 January 1991 states that "The concept of custody used to describe the general mission of the depositary should be understood not in the sense of "safekeeping", but in the sense of "supervision" (...) The depositary has discharged its duty of supervision when it is satisfied from the outset and during the whole of the duration of the contract that the third parties with which the assets of the UCI are on deposit are reputable and competent and have sufficient financial resources."

Madoff was reputable and competent and had sufficient financial resources, which may discharge UBS responsibility. This wording that created the current confusion is the result of the very close and direct say for a relevant input in the drafting of law and regulation.

 La Tribune writes that « la réglementation européenne, qui s'applique aussi au Luxembourg, interdit la double fonction dépositaire-gérant. UBS Luxembourg ne pouvait pas ignorer le règlement. » (free translation:  "the European regulation, which also applies to Luxembourg, prohibits the double role depositary-manager. UBS Luxembourg could not ignore the regulation")

As I said, this provision that is clearly stated in the UCITS directive, is not included in the Luxembourg law because of the business community very close and direct say for a relevant input in the drawing up of laws and regulation.

Article 10 of the UCIT directive states that " 1. No single company shall act as both management company and depositary". This provision is not in the Luxembourg text. This first paragraph was removed to only transpose literally paragraph 2 that states that "2. In the context of their respective roles the management company and the depositary must act independently and solely in the interest of the unit-holders." (Cf. article 20 of the Luxembourg law of 20 December 2002).
What is not clearly prohibited by the law is possible and UBS hence acted as both Management Company and depositary.

One can understand better what Claude Kremer, Chairman ALFI, said: " Nous sommes d'avis que le Luxembourg a transposé la directive comme il le fallait"  (free translation : Our opinion is that Luxembourg transposed the directive as it was needed) (Source: Paperjam, 23 September 2009) :

 

"As it was needed" means the close and direct say for a relevant input for changes to the regulatory framework and implementation of European directives.

 

 

Read my detailed analysis abut the Luxembourg legal and regulatory framework for UCITS