Swaps and Disclosure Requirements. Supreme Court. July 2018

Important: This case law commentary refers to a Supreme Court ruling dated July 17, 2018, regarding swap contracts, the financial institution’s duty to disclose information, and a possible error in the client’s consent. Its primary interest is jurisprudential and historical; therefore, it should be read as a reference point within the evolution of judicial doctrine regarding complex financial products. To assess a current claim involving a swap, financial swap, or other complex banking product, it is necessary to analyze the contract, the client’s profile, the pre-contractual information received, the settlements made, the cancellation costs, and the case law applicable to the specific case.

Swap and Disclosure Requirements

Case law continues to emphasize non-compliance with regulations regarding Swap and the duty to inform about risks, both in relation to the possibility of negative periodic settlements and in relation to high cancellation costs.

In this regard, it continues to emphasize that specialized knowledge of this type of financial product is necessary in order to exclude the existence of error or to consider that it was inexcusable.

Supreme Court Judgment of July 17, 2018

For your interest, we provide an extract from the Judgment, particularly from its Fourth Ground:

“Case law on breach of information duties and its impact on error as a defect of consent. Application to the case at hand.

1. There are now numerous rulings by this court that constitute a well-established and consistent body of case law—to which we will adhere—which hold that a violation of these regulations, primarily with regard to the disclosure of risks inherent in swap contracts, both with regard to the possibility of large negative periodic settlements and to the equally high cost of cancellation, may give rise to a presumption of error on the part of the party who entered into the contract under such a lack of information (see, among others, Plenary Court rulings 840/2013, dated January 20, 2014, and 491/2015, dated September 15).[…]
2. […] In this case, the duty to provide information cannot be deemed to have been fulfilled by the content of the swap contract itself; merely reading the contractual provisions is not sufficient, and the bank is required to take additional steps—carried out well in advance of the contract’s signing—to explain the nature of the contract, how settlements will be made, the specific risks assumed by the customer—such as those that subsequently materialized in the form of high negative settlements, and the possibility of high early termination costs (Judgments No. 689/2015, of December 16, and No. 31/2016, of February 4). Nor is a mere illustration of the obvious sufficient—that is, that since this is a speculative contract, there may be positive or negative outcomes—but rather, the information must be more specific and, in particular, must duly warn the client of the risks associated with a prolonged and abrupt drop in interest rates (Judgment No. 195/2016, dated March 29, citing the previous judgments No. 689/2015, dated December 16, and No. 31/2016, dated February 4).
3. We have also held in numerous rulings that specialized knowledge of this type of financial product is necessary in order to rule out the existence of error or to conclude that the error was inexcusable. The mere fact that these were companies with a certain level of revenue and a long history in the market does not imply that their executives possessed specialized knowledge of this type of complex and high-risk financial product, given that these were companies operating in a sector completely unrelated to finance and investment. The experience of serving as a company representative and having contracted non-complex banking products (loans, credit facilities, discount lines, etc.), does not in and of itself justify the error being deemed inexcusable (judgments 60/2016, dated February 12, and 10/2017, dated January 13).As we stated in Judgments 769/2014, dated January 12, 2015, and 676/2015, dated November 30, it is the investment services firm that has the active obligation —an active obligation, not merely one of availability—to provide the information required by said legal regulations, and it is not its clients—who are not professionals in the financial and investment markets—who must ascertain the relevant investment issues, seek expert advice on their own, and ask the corresponding questions. Without expert knowledge of the securities market, the client cannot know what specific information to request from the professional. On the contrary, the client must be able to trust that the investment services firm advising them is not omitting information on any relevant matter. Therefore, the party legally obligated to provide accurate information cannot argue that the party entitled to receive such accurate information should have taken the initiative and obtained the information on their own.
4. What is decisive is not so much that the information requirement appears to have been formally met, but rather the conditions under which it is actually fulfilled. The financial institution’s disclosure obligations, as specified in the regulations cited above, are not satisfied by a mere reference to the fact that, since a variable benchmark is established as the limit for applying the fixed rate, the outcome may be positive or negative for the customer depending on fluctuations in that benchmark rate—which is the most that can be inferred from the statement made by the bank employee who spoke Chinese and acted as an interpreter, to which the Provincial Court attaches so much importance. The issue is not whether Bankinter could have predicted future interest rate trends, but rather whether it provided the customer with complete, sufficient, and understandable information regarding the possible consequences of upward or downward fluctuations in interest rates and the high costs of early repayment.
5. The defendant entity provided the client with a financial advisory service that obligated it to strictly comply with the aforementioned information duties; the omission of which does not necessarily entail the existence of error as a defect of consent, but may affect its assessment, insofar as the information—which must necessarily include guidance and warnings about the risks associated with financial instruments—is essential for the retail client to be able to validly give their consent, it being understood that what vitiates consent through error is the lack of knowledge of the product and its associated risks, but not, by itself, the breach of the duty to inform.In turn, the duty to inform that rests on the financial institution directly affects the concurrence of the requirement of excusability of the error, because if the client needed that information and the financial institution was obligated to provide it in a comprehensible and adequate manner, then the mistaken knowledge about the specific risks associated with the complex financial product contracted, which constitutes the error, is excusable to the client.
6. Given that the appealed judgment is contrary to the uniform case law of this chamber regarding information and consent in interest rate swap contracts, the cassation appeal must succeed, the appealed judgment must be annulled, and the appeal filed by Bankinter against the first instance judgment, which is hereby confirmed, must be dismissed.”

Author: Casimiro Galán Garrido