Sigrún Davíðsdóttir's Icelog

Icelandic banks grew and expanded abroad and caught attention in countries where they operated but they never got rid of rumours of dodgy dealings, of money laundering and Russian connections. In spring of 2006, the expansion of Icelandic banks and businesses in Denmark attracted attention, causing worries and consternation. According to a Danish source this was even discussed informally on the board of the Danish National Bank. All along, the only people who seemed totally oblivious to these rumours were the financial services authorities in the countries where the Icelandic banks operated.

And so it was in Luxembourg, at the Commission de Surveillance du Secteur Financier, CSSF, the financial services authorities of this tiny state, which builds its wealth on offshore operations at the heart of Europe.

Only a few weeks after the collapse of the Icelandic banks in October 2008 my attention was drawn to the banks’ operations in Luxembourg. I spent months trawling through the Mémorial/Tagesblatt, the official publication that lists information on Luxembourg companies. The banks, especially Kaupthing, had from 1999, set up hundreds of companies for their Icelandic clients. In 2005, Kaupthing started a successful UK operation, which meant that many of the bank’s largest UK clients also had accounts and companies in Luxembourg.

On a visit to Luxembourg last year, I gathered that the CSSF had been completely ignorant of what was going on in the Icelandic banks. It seemed that the CSSF had not had any insight into the fact that the banks breached the limits how much they could lend to each entity/person and the insufficient or no collaterals/guarantees.

However, I have recently learnt that this wasn’t the case at all. The CSSF was indeed very worried about the situation in the Icelandic banks, at least in Kaupthing and Landsbanki (the Glitnir operation in Luxembourg was never big, it came too late to the game). So worried, that following the Q1 result in 2008 CSSF asked the external auditors of the two banks for a thorough report, ia on credit risk.

How Landsbanki responded I do not know but if they met the CSSF as they met demands from the UK FSA it’s safe to conclude that they were neither swift nor forthcoming. Kaupthing Luxembourg managers dragged their feet. The deadline was in June 2008, the report wasn’t finished until the latter half of July. The report was based on Kaupthing’s position at the end of March. The CSSF didn’t like what they saw but in reality the situation, by late summer 2008, was much worse than the report indicated since the underlying numbers had changed much for the worse.

Kaupthing answered in the Kaupthing way, claiming that the CSSF was entirely wrong about essential things. There was, according to the Kaupthing Luxembourg management nothing wrong and the credit risk well managed. However, Kaupthing Luxembourg was in the end forced to sell assets, providing some much needed liquidity. On Friday October 3 Kaupthing Luxembourg manager Magnus Gudmundsson told some employees that the Luxembourg operations were now secured for the coming months.

Evidently, Kaupthing’s management also convinced people at the Central Bank of Iceland that Kaupthing was, contrary to Glitnir and Landsbanki, in a strong position to weather the storm. On Monday 6 October 2008 the CBI agreed to provide Kaupthing a loan of €500m. Considering the fact that Kaupthing, as well as Landsbanki, was from Friday 3 October forced to put all new deposits into Bank of England, meaning that the banks were no longer operating freely, the loan is incomprehensible. I’ve never been able to certify if the CBI knew about the BoE action but my conclusion is that the CBI must have been aware of it.

It’s never been explained what happened to the €500m. Some of it seems to have gone to Sweden, some of it to Luxembourg. But the real mystery is why this money wasn’t used to save Kaupthing by strengthening Kaupthing Singer & Friedlander. Due to cross default clauses it was clear that if KSF collapsed it would trigger a Kaupthing default. KSF and Kaupthing were in a dialogue with the FSA during the last days. FSA set certain conditions for liquidity, Kaupthing claimed it could meet the limits but never did. Not even when it had the €500m.

But back to Luxembourg in October 2008. Although CSSF had been chasing Kaupthing for credit risk and over-exposure to only a few clients it didn’t seem too concerned about the way the Kaupthing managers had run the bank. Kaupthing went into administration, Franz Fayot, a well connected Luxembourg lawyer, was appointed an administrator. But little changed at the bank where Gudmundsson and the other Icelanders kept on running the bank. Apparently, no questions were asked, in spite of CSSF serious doubts.

After JC Flowers and the Libyan Investment Agency had considered buying Kaupthing but decided against it, the English investor, David Rowland finally took Kaupthing over. His bank, Banque Havilland now acts as an administrator for the Kaupthing assets in Pillar Securitisation. The Luxembourg state risked a loan of €320m to facilitate the deal with Rowland, again no questions asked in spite of CSSF’s earlier doubts and worries.

Rowland fired all his Icelandic employees, except one, after the Office of the Special Prosecutor arrested Gudmundsson last year. The message was that Iceland wasn’t important for Havilland any longer. Yet, suddenly Rowland appeared as an investor in an Icelandic bank, the resurrected MP bank. Rowland seems to have an exotic interest in outliers, investing in Iceland and Belarus. MP bank has invested in Ukraine and the Baltic countries. The question is why Rowland, who was called ‘shady’ in the UK Parliament, is suddenly so interested in Iceland and a bank there.

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