A surprise move by Barclays to waive complex local authority loan features and could make it harder for cash-strapped councils to contest onerous early repayment penalties.
The so-called Lender Option Borrower Option loans which were sold by banks to local councils before the financial crisis are now an expensive legacy given that market rates have fallen. Exiting LOBOs today would cost UK councils a total of £32 billion according to Risky Finance data, more than twice their face value, because of market value break clauses in the contracts.
Barclays last June unilaterally waived LOBO clauses in its £8.6 billion portfolio of loans to councils, housing associations and educational bodies, and stopped reporting the assets at fair value in its accounts. This move cost the bank at least £1 billion according to Risky Finance analysis of council disclosures, and was presented as a giveaway by Barclays.
Yet this giveaway only reduced the break cost of the loans by about 16%, based on analysis of the old LOBO loans and the fixed rate contracts that Barclays replaced them with. If interest rates stay low, councils will still pay billions in excess interest costs over time.
However, a study of the accounting context behind Barclays’ move suggests that the bank was floundering in its attempt to accurately value the contracts. This might have given councils under budget pressure a legal opening to contest the break costs. This in turn could have proven a headache for Barclays because it is now seeking to sell the restructured loans to insurance companies and pension funds.