E-Interview with Johannes Fiala (No.4, 2006)

? Mr. Fiala, in a recent interview in Portfolio international you stated that a broker’s liability cannot be ruled out when using ratings. The background to this was what happened in connection with the Scope rating agency and the valuation of real estate funds. Can you first of all briefly describe what exactly happened there? For example, in a Scope press release dated September 15, 2004, Kanam real estate funds were recommended as “BUY”: There it is also said that Scope ??acts independently of sales and product interests ? Later ?portfolio international? reported in the expenditure 1 of February 2006 as well as the FAZ under 11.02.2006 that because of ?family connections between Scope and a fund? (Kanam) a conflict of interest stands in the area: While Scope (managing director: Florian Schoeller, son) then recommended ?SELL? in January 2006, two funds of the initiator had to close. Investigations see the independence of the Ratingagentur by economic interests and/or family volume in question placed: A family member acted on the side of the initiator (as consultant and from the beginning of 2004 as managing director: Manfred Schoeller, father). But it was not only a questionable conflict of interest that was at issue, but apparently also a ?misrepresentation of the liquidity? of a business partner in a key role: Scope had to correct itself on an important point, the FAZ reported. ? The broker actually expects more security from the use of a rating and, ideally, a “release from liability”. How do you assess this in the specific case? It is an open secret that ratings and other ?independent? analyses can sometimes come very close to so-called court reporting. It is an open secret that ratings and other ?independent? analyses can sometimes come very close to so-called court reporting, and are therefore worthless: Whoever reads something about ?independent analyses? as a broker should question how the business model is financed. The FAZ reported about critical statements from the houses of BaFin, Bundesbank and Bundesverband deutscher Banken (Federal Association of German Banks): The title ‘Pikante Ratingbande’ (piquant rating gang) in a trade journal might reflect how low the trust in ‘independence and neutrality’ is. The prudent broker can only be advised to consider carefully from which allegedly serious ratings he expects a ?release? from liability. Ignoring negative trade press by a broker could be held against him in the liability process – as a gross violation of obligations to the simplest plausibility checks. ? Can the topic of Scope and real estate funds also be applied to the insurance industry and your companies and products? Transparency and neutrality must also be maintained in insurance rating ? even the mere ?bad appearance? of a lack of independence must be avoided. On 09.07.2005, a UWG case against PremiumRating GmbH came to an end before the Regional Court of Cologne: The main shareholder and managing director, Mr Gorr, also operates as an insurance broker via his GmbH in addition to the rating agency. DPA reported on the main hearing, among other things: “The court expressed in the oral hearing that a rating as such is by no means prohibited. This also applies if the rating is published by an insurance broker. In this context, however, the lack of transparency in the publication of the rating in Focus Money was objected to. In particular, it was not sufficiently pointed out that Gorr was also a shareholder and managing director of GVM Gorr und Partner GmbH and PremiumCircle. It was also criticised that the points awarded and the weighting were not disclosed in detail there? As also this case shows, personal and/or personal entanglements can justify quite doubts at the objectivity and independence of a Ratingagentur. transferred to the case ?Scope?, could itself an investor ? as it in the FAZ of 11.02.2006 as reproach of an investor formulated ? quite on the fact refer that a Rating was incorrect, and therefore require payment of damages. What needs to be established here for the defectiveness of a rating is twofold: On the one hand, a lack of objectivity and neutrality must be disclosed. On the other hand, ratings must also be regularly consistent and transparent. As a rule of thumb for the broker: If I cannot understand the rating, then I should exercise the greatest caution. ? Do you see a difference here between the use of product and company ratings? In the case of a rating, from the point of view of the user, i.e. the broker for example, it is of decisive importance that it is methodologically cleanly prepared. If, for example, in the case of a price ranking, the prices are not determined in a representative manner, the ranking no longer appears to be impartial and the analysis or investigation no longer satisfies scientific methodology. Analyses must be based on neutral, objective and expert conduct. A considerable margin of discretion may arise where evaluation is concerned: conclusions drawn must merely appear justifiable, i.e. debatable ? this reflects the right of free expression of opinion, i.e. of evaluative criticism. The standards of case law apply to both product and company ratings. As the actuarial expert Peter Schramm criticises, company ratings that are actually correct are often used improperly for the evaluation of products due to a lack of transparency of the insurance products and misconceptions about the actual interrelationships. For example, a good financial strength rating may say nothing at all about whether high surpluses are to be expected if it is only based on the company’s ability to provide the possibly low guaranteed benefits. Whoever then recommends a product with low guarantees because of a good financial strength rating should be able to justify this well, if necessary, as soon as the company shows its financial strength capability in reality by reducing its non-guaranteed benefits. ? If the broker uses a rating and it subsequently turns out that the product is not suitable for the client, can the client hold the broker liable? For the broker, this situation is doubly precarious, because the broker would have to prove at trial that he was not at fault for selecting an unsuitable product: And this naturally leads to the consideration that it must be possible for a broker to use more than one rating for product selection. From the client’s point of view, a rating can be quite a blessing. If the broker is uninsured or underinsured, the rating agency can also be sued. Many rating agencies make this very easy for the customer, because they use legally invalid general terms and conditions (AGB). Typical example is for instance the following reference: ?agency does not take over guarantee for the topicality, correctness, completeness or quality?: Such disclaimers are regularly ineffective. For the broker the following questions can arise: a) Do I want to use a rating for which the agency obviously does not want to assume any responsibility? What value does such a rating then have as a basis for an investment decision or other selection of products or product providers? b) Do I want to trust an agency that already practices banal basic errors in simple liability questions with reference to its own agency assets? Would it be illogical to derive from such errors the suspicion that the ratings are also likely to be faulty? ? Can the broker’s liability to the client be excluded with certainty if he uses a flawed rating for a product that is in itself suitable for the client? If the product is suitable for the customer, the customer will rarely be interested in the rating. In terms of liability, there is always a residual risk for the broker. Therefore, a broker should take the usual measures to minimize his personal liability ? this starts with subjecting the prospectuses and ratings to a plausibility check. Reading and archiving (genuine) trade press can also serve as a safeguard. Not to forget the documentation of the consulting process at the customer, the use of a suitable company form, as well as the VSH insurance of the remaining risk. Even those who buy in ratings and analyses can derive their own recourse claims against analysts or rating agencies: This is where some corporate legal protection steps in. As a broker, you can therefore position yourself in a strategically professional manner. This area also includes the product provider’s liability for damages due to incorrectly calculating sales software, incomplete instructions or incorrect information during product training. ? What requirements should be placed on ratings and rating agencies in general? Where do you see possible conflicts of interest? The preparation of a merely incorrect rating will not be sufficient for liability. It would be necessary for the rating agency to be reproached, for example for negligent research and investigation of the basis of its rating ? or for example for gross recklessness due to statements made “out of the blue”. However, reckless conduct may be sufficient for liability based on “immoral damage pursuant to § 826 BGB” if the rating agency’s actions are deemed to be unconscionable by the courts. Incidentally, courts have also repeatedly sentenced “sales managers” with an internal knowledge advantage to compensation for damages due to induced misinformation. Planned misinformation leads with the selling regularly to the adhesion ? to misinformation by training leaders would be to be thought here exactly the same, like such by Ratingagenturen and allegedly independent analysts. Thus the actuary Peter Schramm quotes on his sidewww.pkv-gutachter.de Rulings that sentenced insurers to compensation or to payment of the annuity originally promised because, knowing that life expectancy had increased, they had still sold the old annuity insurance policies that had been calculated too low, in some cases even forcibly. Then, in retrospect, they wanted to cut pensions because of extended life expectancy.   ? Could rating supervision help here? Whereas rating agencies used to be described as the “biggest uncontrolled force in the financial sector”, at the beginning of 2005 the opinion prevailed that politically one would like to rely on “self-regulation”. In my personal opinion, it is enough to treat the ratings and their authors with a friendly distrust: If you want to make sure that a rating is on solid ground, you can follow it up and check its plausibility. Such a work is also scientific if it is comprehensible by reason: lack of transparency should be a ?knock-out criterion? for every broker in order to distinguish ?cheap? advertising from serious rating work. advertising from serious rating work. ? In your opinion, what can brokers do to protect themselves against possible liability risks? In addition to the above-mentioned business tasks (documentation of advice, correct company form, VSH insurance), training plays a decisive role. I am not thinking of sales training under the motto ‘you keep them stupid, I keep them poor’. It also seems important to me to exchange ideas with colleagues, preferably across disciplines: some dialogue with an actuary, lawyer, insurance consultant, etc. can broaden horizons on both sides. You can only expect limited transparency from insurers, because they regularly regard internal calculation bases as business secrets that need to be protected ? which is only possible to a limited extent.  can be compensated by ratings.
Thank you for the interview

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About the author

Dr. Johannes Fiala
PhD, MBA, MM

Dr. Johannes Fiala has been working for more than 25 years as a lawyer and attorney with his own law firm in Munich. He is intensively involved in real estate, financial law, tax and insurance law. The numerous stages of his professional career enable him to provide his clients with comprehensive advice and to act as a lawyer in the event of disputes.
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