Lender’s claim for hedging costs can proceed to trial

25/10/13

In Mortgage Agency Services Number One Ltd V Edward Symmons LLP, the Court of Appeal had to consider a point of considerable importance to the commercial lending market. The Appellant was (at the time it made the loans) a subsidiary of the Britannia Building Society (which itself in due course became part of the Co-operative Bank). In the two underlying cases it had made long-term fixed-rate loans to commercial lenders, secured on commercial properties which had been negligently valued by the Respondent valuer. In each case, the lender had entered into a hedging arrangement to hedge the interest rate risk attendant upon making a fixed rate loan whilst funding that loan from floating rate borrowings – either an external hedging arrangement in the form of an interest rate swap agreement, or an internal hedging arrangement by way of matching an interest rate asset on its books to an interest rate liability on its books. In both cases the borrower had defaulted. In both cases it was common ground that but for the valuer’s negligent valuation there would have been no transaction between the lender and the borrower.

The lender claimed against the valuer for amongst other things, the break costs it claimed it had incurred upon terminating the hedging arrangements. The valuer sought to strike out this element of the lender’s claim contending, inter alia, that such a claim was contrary to the judgments of the House of Lords in SAAMCo  (South Australia Asset Management Corp v York Montague Ltd [1997] AC 191) and following cases and/or that it was contrary to the judgment of the House of Lords in Swingcastle Ltd v Alastair Gibson (A Firm) [1991] 2 AC 223. The valuer’s application was successful at first instance.

In the Court of Appeal, the lender contended that its costs of hedging (both the ongoing costs and the break costs) simply represented an intrinsic element of its “cost of funds”, i.e. its cost of lending to the borrower, and as such was recoverable in accordance with ordinary SAAMCo principles (subject always to (a) proof of such costs at trial, and (b) the application of the “SAAMCo cap”). The valuer maintained that such costs were in principle irrecoverable.

The Court of Appeal set aside the judgment below, dismissing the strike out application, ruling that the lender’s claims could and should proceed to trial.