‘Apocalyptically evil’: How SMBC Nikko fell out of favor
A decade ago, when Japan and the outside world fell under the spell of Prime Minister Shinzo Abe and his sweeping “Abenomics” reforms, the country’s major brokerage firms, Nomura, Daiwa and SMBC Nikko, began to deploy a new product.
Block deals, involving companies selling off-market chunks of stock to brokerages who then split them among individual investors, were profitable, politically welcome, and not particularly complicated.
But for SMBC Nikko, a century-old company whose owner Sumitomo Mitsui Financial Group is one of the biggest brands in Japan’s financial sector, they have proven spectacularly damaging.
After an 18-month regulatory investigation into alleged market manipulation in which a trader died after intense questioning, big clients fled the tarnished brokerage. Six senior bankers now face a criminal trial on charges that the group artificially inflated share prices before the blocks were sold.
SMBC Nikko’s business, morale and outlook are “apocalyptically poor”, according to a brokerage veteran.
“No one is saying anything openly but after the bonuses in June there is an exodus coming,” said another employee.
The proceeds are also the centerpiece of a new high-profile reputation test for Tokyo prosecutors, who are widely seen to have achieved only a marginal victory in their landmark case against former boss Greg Kelly. of Nissan on the run, Carlos Ghosn.
Many bankers within SMBC Nikko believe prosecutors are largely driven by the perceived need to score a big win. Legal experts and many current and former employees say the brokerage’s downfall is a sign of unnecessary brutality by authorities.
The market manipulation indictments, served on both the individuals and the bank, suggest at least a two-year criminal trial and threaten permanent damage to a once proud financial brand for actions that, according to the criticisms, could easily have been dealt with by a regulatory sanction.
Four people closely involved in the investigation believe its escalation into a major criminal trial is the direct result of the death of a charismatic figure on the trading floor who suffered a brain aneurysm days after undergoing prolonged questioning.
“There’s a kind of reverse logic that goes into the math, whether investigators believe they had no responsibility or whether they know privately that they went too far,” said one person targeted. ‘investigation. “If someone has died, he feels he must prove it to be collateral damage in an investigation of considerable national importance to the health of the financial system.”
However, he warned, “they also need to know that they are pursuing a supposed crime where no one was hurt and maybe nothing illegal happened.”
Prosecutors and regulators, now bolstered to some extent by the firm’s own admission of guilt, now face a potentially year-long trial where they must convince judges that a practice that appeared to meet SMBC Nikko’s compliance standards turned the two traders into criminals. and managers.
Although marketed under different names, the basic idea behind the block trades offered by all three brokerages was the same.
Under the pro-governance push of Abenomics, Japanese companies were under increasing pressure to offload colossal portfolios of cross-shareholdings – mutually owned stakes that critics say had long given underperforming and complacent management a sense of security. .
Another pillar of the program was to prepare the rapidly aging Japanese public for the normalized, mildly inflationary economy the government hoped to create, ideally tempting households to shift more of their huge savings into riskier assets such as stocks. .
The bulk offer appeared to be a good solution. The spread produced by the operation provided a lucrative revenue stream for both the bankers who dealt with the corporate seller and the sales network dealing with retail customers.
For SMBC Nikko in particular, these deals were juicy. Banking parent SMBC’s relationships with hundreds of Japanese firms have secured it a larger number of sellers than bigger rivals Nomura and Daiwa. Meanwhile, SMBC’s huge retail network has given it an edge over other megabank-owned brokerages under Mizuho and Mitsubishi UFJ.
Efforts to protect this golden goose, say people close to the Securities and Exchange Surveillance Commission (SESC) which began investigating SMBC Nikko in late 2020, pushed the brokerage to cross the legal line.
Current and former staff confirmed to the Financial Times that the block offering – in common with some of the bank’s other operations – involved the trading division undertaking certain transactions not for its own profit, but with an unspoken understanding that it was supporting the brokerage’s broader bottom line. .
SMBC Nikko trades were different from those offered by other brokerages in two important ways.
First, it was the only brokerage that informed its retail clients of the exact date the transaction would be finalized, creating an environment in which clients, knowing there would be downward pressure on the stock, could go to another brokerage and sell it short.
People formerly involved in the trades told the FT that SMBC Nikko required clients to promise in recorded conversations not to short the stock. However, the bank had no practical way to enforce this policy.
Other brokerages told retail clients that the bulk trade would take place at some unspecified time over the next few days, which would make short selling more difficult. People involved in the investigation say it also made it harder for these brokerages to sell the product.
The problem created by the short sale was that it drove down the shares of the company whose shares were being sold. This, people familiar with the process said, could create friction between the client company and the brokerage, threatening future relationships, the flow of new deals and, if the drop was particularly steep, the deal itself.
To remedy this, prosecutors say, the proprietary trading desk would mine particular stocks.
SMBC Nikko, unlike other brokerages, allowed these trades despite alerts from the compliance department. Rivals would automatically place shares involved in bulk deals on their shortlist, preventing them from trading the shares while the market was open.
That, say prosecutors, is the motive for the trades now at the center of indictments against former US head of SMBC Nikko’s equity division, Trevor Hill, his UK deputy Alexandre Avakiants, senior trader Makoto Yamada, l former Vice President Toshihiro Sato and two others.
Prosecutors say the bank’s owning trading desk supported the price of shares sold in bundled offers toward the end of the trading day. This is market manipulation that SMBC Nikko has admitted to. But all individuals intend to plead not guilty.
Yamada’s indictment, say people familiar with the situation, targets an individual who appeared directly involved in the end-of-day transactions, and whose alleged language in the emails included a triumphant self-congratulation for the “support” for certain actions.
Hill and Avakiants are expected to claim that as senior executives of a trading operation dealing with thousands of trades a day, they would not have paid much attention to desk prop trading. in what were often relatively small-cap names.
In their quest for scalps, the SESC and the Tokyo prosecutor’s office have guaranteed a lengthy trial that will revolve around a highly nuanced debate over the precise nature of the question of whether the act of buying shares in ultimately constitutes stock market manipulation within the meaning of its legal definition. of “price-fixing” and evidence of intent.
These two elements, according to legal experts who have been involved in other cases, would normally be enough to deter prosecutors.
Instead, they doubled down in a way that cast doubt on the future of one of Japan’s biggest financial brands.
SMBC Nikko Investigation Timeline
End of 2020
The Securities and Exchange Surveillance Commission opens an investigation into SMBC Nikko Securities
SESC launches investigation into SMBC Nikko
March 4, 2022
Four SMBC Nikko executives arrested after prosecutors raid company’s Tokyo headquarters
March 24, 2022
Prosecutors arrest SMBC Nikko VP, file criminal charges against company and five bankers
April 13, 2022
Prosecutors indict VP, file new criminal charges against SMBC Nikko and banker