When computers started to be used seriously in business, I was asked whether actuaries would become redundant, as computers can calculate numbers a lot more cheaply. But it was true then, and now, that actuaries earn their keep by ensuring that the right numbers are being calculated. This fact underlies my work as an expert, focusing on two aspects of numbers: first, that they are appropriate to the situation, and second – a hobbyhorse of mine – ensuring that advice about financial risk has an array of numbers attached so that the recipient can appreciate the risk (and can focus their attention on the material issues).
I was asked by the Financial Conduct Authority to provide expert evidence to the Financial Services and Markets Tribunal on the subject of risk in a disciplinary matter concerning alleged large scale mis-selling of endowment assurance policies designed to repay a mortgage. This is a problem still affecting millions of homeowners who will not have enough money to repay their mortgages; many thought they would have a surplus to enjoy, but most now have a deficit.
Whether there is a surplus or a deficit is usually said to be a question of how good the investment return has been over the term of the policy – typically twenty-five years. But there is another fundamentally important element: how much money the homeowner pays each month into the policy. It seems obvious that the larger the monthly payment, the lower the risk of a deficit, and vice versa. So, I did research into who decided what the level of monthly payment should be and their method. The result was quite a shock; this particular life assurance company was telling their policyholders to pay sufficient in order to receive a 50% chance of a surplus alongside a 50% chance of a deficit. I told the tribunal that this was the case (the expert on the other side, an actuary from KPMG, told the tribunal that he agreed with me on this).
My career as an expert witness started in 1982, at which time I was the statutory actuary in a life assurance company (i.e. responsible for signing off the annual statutory financial condition report). My core day-to-day duties were setting rates and reporting on solvency of the life assurance funds. I also managed the underwriting, including employing medical officers to advise us, and claims. The claims side was particularly interesting because we had a large book of disability policies, and because we were also international, I even had responsibility for claims in a country that was experiencing a prolonged civil war in which some of our policyholders were killed or injured.
In the course of my work I frequently had to deal with the company’s solicitors and one day they asked me whether I could help them by giving expert evidence on the capital value of loss suffered by a man who was permanently disabled as a result of someone’s alleged negligence driving a car. The loss was both inability to earn a living and medical expenses. Other somewhat similar cases which followed included a bus driver who lost an eye, and hence his employment, as a result of an assault, and an Imam who was suing for loss of income after being dismissed from his position for blasphemy. I wrote over 100 expert witness reports over the next few years and gave evidence in court a number of times.
The man who assaulted the bus driver was not legally represented and when I was called to give my evidence – which was in a long report quoting issues such as mortality tables, discount rates and taxation – the judge said it was only fair that I explain my whole report, including actuarial concepts, to the defendant in layman’s language.
Another encounter I remember from those days was on the question of whether a penalty for late payment of life assurance premiums should be treated as interest and therefore taxable in the hands of the life assurance company. I was on the witness stand all afternoon, under attack the whole time. I must admit that I have never been willing to collaborate in being led down a path by cross-examining Counsel to say something I don’t actually believe, or that I think will be relied upon in an inappropriate way. In my experience counsel may even complain that I am being argumentative. Over the years I have a tally of five cases where the Judge has told Counsel to apologise to me and I have not yet been criticised by a Judge (or tribunal chairman) for my report or my performance on the witness stand. In a recent case there were three experts and the other two were both criticised in his judgment by the judge for engaging in advocacy – but I escaped that accusation.
In 1989 I joined a large London firm of consulting actuaries, Bacon & Woodrow. I was fortunate that John Prevett was one of the partners. He was well known for playing a crucial role, as an expert witness, in winning compensation for the victims of thalidomide. He suggested I should join the Academy of Experts and he endorsed me. Bacon & Woodrow split up later – the pensions consulting is now part of Aon and the insurance consulting is part of Deloitte.
At Bacon & Woodrow I was asked to become involved in the new area – following Big Bang – of financial services regulation. B&W had good contacts with the Financial Conduct Authority (it has changed its name a few times, although it has only ever been one continuous company, it was then called the Securities and Investments Board). At that time large numbers of people were being advised to leave occupational pensions, or not to join, and to take out personal pensions instead. FCA wanted an idea of the numbers involved, but personal pension providers were not required to record whether the individual could have been in an occupation pension instead. I devised a survey, based on sampling and telephoning personal pension holders with a detailed script, and we produced an estimate of numbers that was used to launch a major pensions mis-selling review. The eventual number was only 5% different from our estimate.
At that time, I decided I had sufficient experience of investment mis-selling – and of expert witness work – to leave and set up my own consultancy, and I have worked in these areas for nearly twenty-five years. In recent times I have broadened my approach towards investment mis-selling to regard it as one aspect of consultancy in the area of risk management concerning financial products. I now have a partner who also has an actuarial background but has worked in banking, so we can cover a wide range including investment portfolios, life assurance, pensions, mortgages, equity release, derivatives, banking operations etc.
Over the years I have been involved in regulator-led remedial programmes for mis-selling of pension transfers, pension opt-outs, mortgage endowments, interest rate hedging products and, currently, the review of banking relationships with the Global Restructuring Group of Royal Bank of Scotland. During the course of this work, I have built calculation programmes to calculate compensation (or check the amount of compensation offered) for pensions, endowments, and interest rate hedging products.
My approach to expert witness work has always revolved around the facts that in the large and complex area of financial products many problems come to the surface; and whereas there are many people needing advice, only a very small proportion of the problems end in litigation. In fact, the FCA requirement for financial institutions to operate complaints schemes, as well as a number of extensive regulator-led remedial schemes, and the financial and other ombudsman services, means a lot of work is done to avoid litigation – but this means advisory experts are needed and the experience I can bring to expert witness work is founded on a wide range of exposure obtained through consultancy.
The majority of cases I see are due to a financial product not being suitable. I claim a bit of credit for this term, because it was while I was engaged by a financial services regulator and assisting them with a disciplinary investigation into selling by a life assurance company (the regulator was LAUTRO – those with long memories may remember it, and its successor the Personal Investment Authority) it was decided that this term was the best to describe the test we were applying to selling practices.
Over many years I was involved in at least a dozen such investigations, for both regulators and those under investigation. These investigations don’t just look at individual cases, but look at multiple cases searching for patterns of conduct – this necessarily involves investigating an array of procedures and ensuring that they are carried out accurately and efficiently. There are similar considerations when an investigation leads to a remedial programme and I have been involved as an adviser in these situations too, including providing ‘skilled person’ services (section 166 of the Financial Services and Markets Act 2000).
Other categories of case I see are product operation issues and what I will call esoteric risk issues. I am going to return to the subject of suitability but will first give some examples of the other two categories. Product operation might be thought to mean only issues with charges – there are certainly such cases but there are others. An example which I worked on was a life assurance company that used an Excel workbook to calculate retirement benefits and found that errors had occurred and been carried forward – overpayments had been made totalling some hundreds of millions of pounds. This was a professional indemnity insurance claim but there had been a change of insurer – I was engaged to advise on when the problems arose and therefore which PI insurer would be asked to meet the bill.
There are many life assurance policies where premiums are invested but each month a charge is taken out to pay for that month’s life cover (and sometimes critical illness cover). Where the investment value of the policy builds up and overtakes the amount of cover provided such charges should cease. But if the investment value doesn’t build up, the cost of cover can escalate with the increasing age of the life assured. In my experience, the way in which the charges are calculated may be opaque – in fact I have seen cases where the life assurance company had not indicated in any way whatsoever how it would calculate these charges and there do seem to be some abuses.
Product operation issues also include some difficult issues of taxation and limits for pensions – and sometimes for life assurance. There are traps for the unwary financial adviser and sometimes they get it wrong and the consequences can be very expensive; they then need an expert to determine what amount of loss is attributable to the financial adviser’s negligence and what is not causally linked.
I have mentioned esoteric risk issues. This category covers a range of cases where the risk issues are not all that clear. For example, financial arrangements in the United Kingdom between the parties in a divorce may involve income-producing assets in another country, but exchange control prevents the assets being moved even though income can be transferred. The principle of a ‘clean break settlement’ can mean it is necessary for one party effectively to buy, in UK currency, a foreign income stream. Valuation involves not just the usual discounting process, but consideration of future currency exchange movements and how to adjust the cost for the risk borne by the “buyer”.
Another esoteric risk is ground rents extending more than a hundred years. Obviously discounting techniques can be used, but what allowance should be made for uncertainty over such a long period? To take another example, derivatives are complex financial products (understood by very few people) but they are in wide use by the banks and others and the total exposure is staggeringly large. Usually these products are traded between parties who both know exactly what they are doing and there is little or no reason for any dispute arising. But businesses buy these products from the banks and several things can go wrong. My experience is that it often needs an expert to see whether something has in fact gone wrong; most businesses have no frame of reference to do anything other than accept what they are told by their bank.
It is important to seek qualified advice from an independent expert when dealing with bank products and services. Where the products are complex e.g. derivatives, it is important that the customer’s first-call advisers, e.g. lawyers and/or accountants, recognise the limits of their expertise and introduce qualified experts at an early stage.
Banks are usually well resourced and can rely on a depth and breadth of expertise which cannot be rivalled by most other non-bank financial institutions. That means that it is important to seek the appropriate expertise to ensure that a bank’s representations are assessed on an equal footing. Given their resources, the complaints process of most banks is well structured in terms of provision of information and timeliness of response. That does not mean however that they always make the right decision. I have seen a number of cases that have been overturned by the Financial Ombudsman Service as a result of Congruent’s advice and representation.
When it comes to litigation the banks usually “throw everything but the kitchen sink” into the dispute. In a dispute there is a conflict between looking after the bank’s interests and treating customers fairly – we find that the bank usually looks after its interests ahead of the customer’s interests.
Problems frequently encountered are that the tenor and shape of a product do not match the need well enough and how the product will work is inadequately understood. The impact on the business’ balance sheet may not be understood, or the impact of changing interest rates may not have been thought through. In the event of a dispute arising there may be a question of whether an alternative product would have been more suitable. In addition, businesses need to be able to alter their finances from time to time but often there is an existing derivative which may need breaking – there is then an issue whether the profit margin taken by the bank is fair; I have been asked to advise where future profit margins seem to have been added to the break costs, but also included in an alternative product ie double charging.
I said earlier that suitability is a major cause of referrals that I receive. What this means is that the product does not meet the needs of the customer. Unfortunately, it is not usually a simple matter of saying the customer wanted £X and is getting £Y. Problems arise when the customer has future financial needs, which involve risk, and they want a product that matches those needs and the attendant risks, but there is no exact solution so they must compromise. The financial adviser is supposed to explore all this before recommending a product, but it is possible that too little attention, or too little weight, is given to one aspect or another.
People only come to an actuary when the issues are complex to unravel, or where the basis on which compensation needs to be calculated is difficult to decide. The issues can be around whether the consequences of the various levels of possible future investment performance were properly understood and what is the impact on what was being sought or hoped for. The modern term for this is a risk assessment and the questions are whether it was carried out at all, whether it was carried out competently, and whether it was communicated adequately. I have seen issues arise, for example, with gearing and its impact not being adequately understood. I have seen a case where gearing – in other currencies – was so important that the investment demanded constant monitoring and timely corrective action, but nobody actually did that until it was too late.
What about the future – will there continue to be problems or have we all learnt enough for problems not to arise? I am sorry to say, but I think there will always be problems – the volumes of money that need to be invested is enormous and financial risks will always be with us combined with continuing lack of adequate understanding and clarity of thinking (using pensions as a fine example) Product providers have strengthened their standards (mainly under regulatory pressure) but even if they continue to do so I think, for the reasons I have said, they cannot prevent a flow of problems.
The question then arises how firms like Congruent can help. I mentioned earlier that few cases go as far as litigation. So, I would say that there needs to be a thriving industry of people with the necessary expertise providing financial remedial advice alongside solicitors. I think that most solicitors would agree that the most cost-effective way of initially dealing with a financial product problem is for an expert to look into it without legal costs being incurred at that stage.
Parliament is presently considering the Financial Guidance and Claims Bill to bring together various free-to-client financial guidance services and transfer regulation of claims management services to the FCA. Those initiatives may be necessary but what I have been writing about above is not the day-to-day conduct of providing financial products to the population, but a layer of concern where problems – usually complex – have occurred. Obviously improved guidance for the population can help reduce the future flow of cases which bring up problems but I do not think the flow will stop.
Finally, after writing a lot about handling problems before litigation is started, I will say a few words about expert witness services supporting litigation. The problem, as we all know, is that the process is very expensive but my opinion is that involving an expert at an early stage can save money. In appropriate cases, an expert can sometimes identify the key financial issues more quickly than a lawyer can. An expert may be able to help by interviewing the complainant at an early stage.
Unfortunately, I have many times been brought into a case too late. In one case I told a solicitor, after studying the papers, that I could not support the case he had put together and he told me that because I had agreed to be appointed I was under an obligation to support the case – which I did not agree to do. In another case recently – a distressing case of a widow in her nineties, whose husband borrowed a modest amount on the security of their home on terms that interest would roll up, being told she now has to repay the loan which has grown to be more than the value of the house; but the solicitor had built his case on the interest rate being higher than the Bank of England base rate and I had to tell him that this was permissible (and any lender would need to charge a margin).
Obviously, I have met other expert witnesses working in the same area. Many of them do seem to lean towards their client – which they are obviously not meant to do. I tend to the other extreme; if asked, about a past case, which side I was on, I can sometimes truthfully say I can’t remember. My feeling is that the number of competent expert witnesses needs to grow to cope with the flow of problems, but as I have said earlier, advisory work should be the bulk of what they do rather than litigation support.
ROGER GRENVILLE- JONES
Tel: +44 (0)20 3143 3150
Roger Grenville- Jones held a senior position as a ‘Head of Actuarial Function’ within a global insurance company and since then has been a consulting actuary for over twenty-five years. He has a wealth of experience in dealing with specialist financial products and is particularly experienced as an expert witness for financial complaints. Roger was appointed by the Financial Conduct Authority (“FCA”) to provide expert evidentiary analysis on the risk of certain financial products in disciplinary proceedings against a regulated firm.
He holds an MA in Mathematics from Cambridge University and is a Fellow of the Institute and Faculty of Actuaries. He has also been a university lecturer in actuarial science.
Congruent was established in 2013 in response to a growing demand from corporate clients seeking independent, professional advice on banking and financial product risk management & hedging arrangements.
As an established financial risk advisory firm, we provide businesses and their professional advisors with specialist advisory and transaction services. We also provide expert witness services.