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Article | FI Observer

Have the doors been opened on cum-ex trade repercussions?

Financial, Executive and Professional Risks (FINEX)
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By Ben Pugh | October 15, 2021

A recent ruling by Germany’s Federal Court of Justice could open the door to further rulings regarding this historic trading issue across Europe.

Background

“Cum-ex” trading – also known as dividend arbitrage or dividend stripping – is a practice where shares are rapidly transferred multiple times between banks and stockbrokers with (“cum”) and without (“ex”) dividend rights around the dividend pay-out date, thus enabling the parties to obfuscate the identity of the actual owner. This allows the investors to sell company stock before the dividend is paid out and then deliver it after the dividend is paid. Therefore, both parties can claim tax rebates on withholding tax when in actual fact, the tax has only been paid by one of the parties. In total the European Parliament estimates that between 2001 and 2012, European taxpayers have lost out on €55bn due to dividend stripping.1 The document linked in footnote 1 (from the European parliament) sets out the above process and includes a helpful diagram.

The European Parliament estimates that between 2001 and 2012, European taxpayers have lost out on €55bn due to dividend stripping.1

Germany banned these types of trades in 2012 and also cracked down on a different sort of dividend stripping, known as “cum-cum” trading, in 2017. Other countries such as Denmark, Belgium, Austria, Switzerland, and Norway have also been affected.

Recent developments

On 28 July 2021, Germany’s highest criminal court – the Federal Court of Justice – upheld the March 2020 ruling by the District Court in Bonn which resulted in a suspended sentence and €14m fine for one London investment banker and a suspended jail sentence for another trader. The Federal Court ruling also upheld the €176m fine the District Court levied against the German private bank MM Warburg.2 It is anticipated that there will be further trials and potential fines to come, given the Federal Court judge’s strong stance, labelling the practice as a “blatant grab from the bag that holds all taxpayers’ contributions”.3 It appears that the German authorities are just getting started.

a suspended sentence and €14m fine for one London investment banker and a suspended jail sentence for another trader

Insurance implications

So far, we have seen claims relating to these dividend stripping trades impacting financial institutions, particularly banks. The claims we have seen can roughly be split into two types:

  1. Civil actions and criminal investigations against companies, traders and managers by the regulators and authorities;
  2. Third-party claims for damages by custodian banks whose clients have been asked by the German/Dutch tax authorities to repay the withholding tax they are owed.

Costs incurred in responding to or defending an investigation against a company and third-party claims for damages may be potentially covered under a Professional Indemnity (PI) policy. In addition, legal costs that are incurred by individual traders or managers being investigated by regulators/authorities could also be covered under a Directors’ & Officers’ (D&O) policy, or a PI policy if the individual was acting in a professional capacity. It is important to check the cover available under both your PI and D&O policies to understand what, if any, cover is available in these scenarios.

It is worth noting that any fines against entities issued by regulators or authorities, as well as costs defending criminal prosecutions, are generally not covered by insurance (other than where extended as appropriate). However, with respect to fines, the insurability of such is governed by the law applicable to the policy.

If you have any questions regarding your insurance coverage, please reach out to our Willis Towers Watson Financial Institutions team.

Footnotes

1 https://www.rahmanravelli.co.uk/articles/cum-ex/

2 https://www.dw.com/en/germany-top-court-issues-first-ruling-in-cum-ex-case/a-58669226

3 https://www.bloomberg.com/news/articles/2021-07-28/cum-ex-trading-strategy-was-criminal-germany-s-top-court-rules

Author

Global FI Claims Advocacy – Analyst

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GB Head FINEX Financial Institutions

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