UBS sued by client: If it sounds too good to be true...

UBS AG (UBS) is being sued in Hong Kong for allegedly inducing a 77-year-old woman into buying highly risky derivative investments that cost her $25.8 million in losses.

According to the complainant, Chan Wai-yee, the Swiss bank's advisers led her to sign numerous documents in English, including one that made her a "professional investor" under local securities regulations. Chan, who doesn't speak English and didn't finish primary school, asserts that she was also talked into buying an equity accumulator package just months before last year's market crunch. The suit claims that UBS bankers never spelled out the risk and potential losses, thus acting negligently and with reckless misrepresentation.
Equity accumulators have been popular in Hong Kong since before the financial crisis hit. Basically, these are agreements between banks and the clients, wherein the client commits $1 million (US) to buy a stock at a fixed strike price and at fixed intervals for the next twelve months. The strike price at which the bank will sell the stock to the client is set at a discount to the trading price on the day of the agreement. For example, if the discount is 25 percent, the client has a year in which he or she can pay $75 for an HK stock that trades at $100.

Sounds fantastic, no? Not quite. One of the terms is that the contract will be canceled should the stock reach a knock out price, usually 4 to 5 percent above the price on the transaction day ($104 in our example), limiting the upside to the client and the losses to the bank. The client, though, has no such cancellation option to limit her down side.

If the stock price remains relatively flat for a year, the accumulator can be really profitable to the client. However, if the price falls below the strike price (below $75), the client's losses can be unlimited, especially if she also leveraged herself to enter into the contract. This, of course, was the case for Chan, who said the bank represented the products as a "bargain" with limited potential losses. She entered 25 such contracts.

Unfortunately, this sounds all too familiar. Just like subprime mortgages or other fancy derivative products aimed at high net worth clients, these deals that sound too good to be true generally are.

Banks and businesses have one incentive: to increase their own profit. They can confuse the issue and offer as convoluted products/payment system as they want, but at the end of the day, their goal is their own bottom line. Consequently, when a bank pushes a product, it is doing so out of an attempt to gain money, not because it loves its customers.

If something is too complicated and cannot be properly explained by bank advisers, or understood by clients, why enter into such agreements? Notwithstanding possible negligence by the bank in this case as alleged by the suit, greed can often lead us to make the wrong choices. Chan, a woman who has accumulated millions through "hard work," should have known better -- nothing is ever free and greed rarely pays.
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