Repo 105 vs FSA soft touch regulation 101

Two things strike me about the Lehman Brothers accounting for the over-collateralised repos. What did the counterparties do in respect of their own accounting treatments of the repos and what anti-money laundering investigations were made?

If Lehman's booked a sale, how did the counterparties such as Barcap, UBS etc, account for the repos? Were they purchasing the assets on an outright basis or did they regard these as normal repo transactions?

Unfortunately we'll never know. Lehman's year end was November while European banks have December, and Japanese banks March year ends, respectively. Thus banks can readily teem and lade assets and liabilities in order to help each other present the best balance sheet possible at the year end.

Perhaps as part of the global reform of the banking system, all banks should have the same financial year end.

The money laundering angle is simply the case that if I, as a customer of a bank, were happy to accept $100 for liquid assets clearly worth $105, such a suspicious contract should lead to the bank investigating me for potential money laundering.

But then the FSA withdrew its rule book on money laundering in early 2006, relying on banks to use their own code of practice for "know your customer" procedures based on a risk-based approach.

A typical in-house code would require a bank to investigate customers entering loss-making transactions where the loss is avoidable or transactions which have no apparent economic purpose. Also any suspicion of illegal activity or attempts to hide money from law enforcement and tax authorities should be followed up.

What the risk in the risk-based approach has come to mean, is the risk that the activity is found out or that the FSA will admonish the financial institution. The FSA's light touch has been a soft touch as far as the banks are concerned.