Financial firms moving to drop discussion on derivatives fiasco compensation

By Lee Min-hyung

Banks will be less motivated to provide compensation for victims of a controversial currency-linked financial derivatives option, amid weakening pressure from watchdogs after the hawkish leader of the Financial Supervisory Service (FSS) left office last week.

The dispute over the knock-in-knock-out (KIKO) options started in 2007, when a group of big commercial and state-run banks sold the financial products to around 700 export-driven Korean small- and medium-sized enterprises (SMEs).

At that time, the lenders spoke highly about the products, promoting them to investors, saying that the derivatives could help them hedge foreign exchange risks.

But during the 2007-2008 global financial crisis, the companies which invested in the KIKO options suffered massive losses estimated to be worth as high as 3 trillion won ($2.66 billion).

Legal disputes ensued, and the Supreme Court ruled that banks had not engaged in any unfair sales activities, so they did not hold legal responsibility for providing compensation for the KIKO victims.

But with former FSS Governor Yoon Suk-heun taking office in 2018, he raised the need to reinvestigate the KIKO incident from square one. A dispute settlement committee from the regulator then issued a recommendation in 2019 that six banks ― including Shinhan Bank, Woori Bank and the Korea Development Bank ― needed to pay compensation as high as 41 percent of the losses incurred by the KIKO victims.

Only three lenders ― including Shinhan and Woori banks ― accepted the recommendation, with the others refusing, arguing that the dispute came to an end back in 2013 when the top court reached its final decision.

But a group of 10 banks, which sold the KIKO options, launched a consultative body last year to discuss how to compensate the 145 firms that have not been fully compensated by the banks. The action was taken amid fears over possible retaliatory actions from the FSS, unless they showed a gesture of abiding by the recommendation from the top watchdog.

The autonomous consultative body, however, has since failed to generate concrete outcomes as to the compensation, as the move was aimed at displaying their “moral responsibility,” rather than actually discussing details over how to provide compensation to the victims.

Korea Development Bank Chairman Lee Dong-gull also stepped up his criticism of the FSS early this year, saying that the ruling from the watchdog was nothing more than “political populism.”

With the head of the state-run lender reaffirming its determination not to take part in any compensation, other commercial banks also have also kept a low profile and walked on eggshells when dealing with the FSS over the past few months.

But chances are growing that the discussion will not be able to make progress after Yoon ended his three-year tenure last week and left the FSS.

Details over who will replace Yoon have not been confirmed, but it appears unlikely that the new leader will be able to resume the drive at a time when public sentiment toward the watchdog is worsening, after the FSS became mired in a series of controversies surrounding its “excessively harsh attitude” towards leaders of financial institutions.

Officials from the financial industry also said the KIKO compensation issue has in effect come to an end.

“The dispute was already legally settled by the court, but the FSS raised the issue once again,” an official from the industry said. “Even if there is no legal basis for us to engage in discussions about the KIKO compensation, banks have had no choice but to follow the guidelines of the watchdog.”

“The banks are not holding discussions on the issue, and no lenders are willing to do so as of now,” the official said.

Another official from the industry also raised doubts over the sincerity of the FSS' moves.

“If the FSS had had enough willingness to reinvestigate the issue, it would have forced banks to compensate for the victims, but it has not done so, instead only urging the banks to discuss the issue by themselves.”