Kens Part

Financail Crisis
Finance has played an important role in the rapid growth of the world's
economy. However, financial derivative also brings risks, which brings
unexpected changes to the market, breaks the capital chain and finally
badly affect the health of the world's economy. This is just the case
what Subprime Crisis has done in the US.
The subprime mortgage is offered to the house loan applier who have
low-level credit record according to the bank, so the subprime
mortgage usually has a high lending rate related to it's high risk.
Starting from 1980's, the real estate industry of U.S. has enjoying a
high-level prosperous, and large sums of subprime mortgage has been
made in this market. At the same time, the rich return received by
subprime mortgage has covered up many of important defects, such
as the lack of risk evaluating process, the liquidity shortage of assets,
etc.
However, as the bank rate started to rise since 2002 in the US, the real
estate market goes down in 2006 and problems of subprime mortgage
have gradually been revealed. One report given by Lehman Brothers
said that more than 30 percent of newly provided subprime mortgage
in 2006 are unable to be repaid, and nearly 220 millions people
arelikely to lose their houses. What's more, nearly 20 loan institutions
and mortgage credit commission companies are bankrupted, while
most hedge funds are dissolved or redeemforbidden, world-known
investment banks and commercial banks announced profits warning,
with index of stock markets goes down rapidly. To save the market,
more than550 billion dollars of liquid money has been spent in the
market by the central bank of developed countries, however the
situation still doesn't change, and the high risk still existand has a
large potential to go worse.
The collapse of the sub-prime market of the US. in 2007 triggered a
spate of banking and financial crises. It's hard to evaluate the total
effect of Subprime Crisis in US right now since it's still not solved, but
the pains are real. The financial crisis began in the US has made people
see a new picture of economic globalization. Although the financial
crisis occurred in the United States, but it spread rapidly, made the
bond market suffer the panic selling and stock market suffer upheaval.

Lehman Brothers Holdings

The swap counterparty:

Lehman Brothers Special Financing
Interest

Trustee

Mini-bond

Mini-bond
The issuer:
Retail investors
Pacific International Finance
Payment

The arranger and calculation agent:

Lehman Brothers Commercial Corporation Asia
Or Lehman Brothers Asia
Interest

Payment

Collateral

Bankruptcy of Lehman
Lehman Holdings, one of the leading investment banks in the US and
worldwide filed for bankruptcy protection on 15 September 2008 under
Chapter 11 of the US Bankruptcy Code. One of the outcomes is that
the Lehman Brothers-related entities have defaulted in respect of their
obligations under Minibonds and other structured financial products. In
Hong Kong, Lehman Pacific had issued 32 series of and approximately
HK$13.9 billion of Minibonds to retail investors. When Lehman Holdings
filed for bankruptcy, three of the 32 series of Minibonds had matured
and one series had been the subject of an early call. In respect of these
four series, investors were repaid the principal amount of their
investments amounting to approximately HK$1.3 billion. The remained
Minibonds with a nominal value of HK$12.6 billion are in approximately
34 000 investors.
Lehman Brothers minibonds
Structured products having a similar structure to that of minibonds
were commonly sold to institutional investors as credit-linked notes in
many jurisdictions. However, it was not very common for such
structured products to be sold to retail investors. In Hong Kong,
minibonds were distributed as retail products from 2003.

In Hong Kong, minibonds linked to Lehman Brothers Holdings were

issued by Pacific International Finance, a SPV incorporated in the
Cayman Islands. Lehman Brothers Asia, as arranger, arranged for the
minibonds issued by the issuer to be distributed by the distributors to
retail investors in Hong Kong. Minibond holders were entitled to receive
a coupon payment on a periodic basis. The issuer uses the payment to
purchase certain US-dollar-denominated underlying assets, the
collateral, selected by the arranger on behalf of the issuer. The
collateral was held by HSBC Hong Kong, as trustee.
The issuer entered into a swap agreement with Lehman Brothers
Special Financing, under which the issuer would pay to Lehman Special
Financing a sum equal to the interest and other income it received for
the collateral. Lehman Special Financing in turn would pay the issuer
fixed payments equal to the interest due on the minibonds.
The maturity date was typically three to six years after the issue date.
If no reference entity suffered a credit event before the stated maturity
date, and no other redemption event occurred, the holders of the
minibonds were entitled to receive a payment on the maturity date
equal to the liquidation value of the collateral.
A purchaser of the minibonds was exposed to multiple risks: the credit
quality of the reference entities; the credit quality of Lehman Special
Financing, as swap counterparty; interest rate risk; currency risk; and
the market value of the underlying collateral. 1
Lehmans collapse
Lehman Brothers Holding and Lehman Special Financing filed for
bankruptcy under chapter 11 of the US Bankruptcy Code on 15
September 2008 and 3 October 2008 respectively. This event
constituted an event of default under the swap agreement, entitling
the issuer to terminate the swap agreement. The termination of the
swap agreement would result in early redemption of the minibonds.
The amount payable to holders of the minibonds on early redemption
would be an amount equal to the liquidation proceeds of the collateral.

Misselling
In Hong Kong, thousands of Lehman Brothers minibond holders claimed
that they bought the minibonds after being assured by banks that they
were low-risk products, only to see the value plunge after Lehman and
1 See Freshfields: An overview of the Lehman Brothers minibonds saga, 16 Dec.
2008.

its subsidiaries declared bankruptcy in September. This treagedy

happened out of misspelling by retailers. Misselling can be broadly
categorised into two classes according to the SFCs Enforcement
Reporter(issue 60), published in October 2008. First, an investor may
be given wrong information about a financial product, leading him to
make an investment decision that he would not have made if the
correct information had been provided. The second type happens when
an investor ends up investing in a product that is not suitable given his
financial situation.
Outcome of the scandal.
1. Lahman affected investors have protested many times. In
November 2008, investors held a protest march from Sogo in
Causeway Bay to the Central Government Offices in Central;
attendees shouted slogans calling for then-Chief Executive of Hong
Kong Donald Tsang to step down and criticising the opacity of the
banks' operations2. The following month, when former U.S.
president Bill Clinton visited Hong Kong for the first annual meeting
of the Clinton Foundation, 90 people protested outside of the Grand
Hyatt Hong Kong where Clinton was staying.3 In January 2009, five
protestors collected signatures from over two thousand affected
investors and set off for neighbouring Macau to submit a petition to
Xi Jinping, who was visiting the city at the time.4
2. The investors confidency of investment products was diminished.
Since the financial crisis and minibond scandal, the investors in
hong kong had lost faith not only in bonds but in every financial
products. In the forth quarter of 2008, the amount of funds
subscription application diminished dramastically.
3. The claims of misselling of investment products increased.

2 http://life.mingpao.com/cfm/dailynews3b.cfm?File=20091102/nalgd/gda1.txt
3 http://news.sina.com.hk/cgi-bin/nw/show.cgi/2/1/1/961103/1.html
4
http://www.rthk.org.hk/rthk/news/expressnews/20090110/news_20090110_55_55
1406.htm