Government guarantee effectively nationalizes Northern Rock

By Philip Aldrick and Iain Dey
The Telegraph, London
Friday, September 21, 2007

http://www.telegraph.co.uk/money/main.jhtml;jsessionid=YFABX0VTNHWC1QFIQ...

Northern Rock has effectively been nationalised by the Treasury's unprecedented guarantee this week to protect all deposits at the beleaguered mortgage lender.

Details of the arrangement, published yesterday, revealed that the bank's commercial paper has been entirely underwritten by the taxpayer.

Sources said the move had effectively turned billions of pounds of Northern Rock's liabilities into gilts.

Danny Gabay, an ex-official of the Bank of England now at Fathom Financial Consulting, said: "This is a nationalisation of Northern Rock. Don't expect the Treasury to place civil servants at the helm but, to all intents and purposes, the state now guarantees it."

The Treasury guarantee to "cover existing and renewed wholesale borrowing which is not collateralised" is Northern Rock's final bailout. The lender already has at its disposal the Bank of England's emergency funding facility and, following Wednesday's humiliating volte-face, access to medium-term money from the central bank, which may pump as much as L40 billion into the markets over the coming four weeks.

"They can't go bust now," one banker said. "We're back to the 1970s."

Opinions were divided over what the Treasury's intentions are. Mr Gabay said: "Is the chancellor trying to wind it down, sell it on, or just give it some breathing space?"

If the guarantee is transferable to a bidder, which was unclear last night, it "would make Northern Rock very attractive at these prices," sources said.

However, others speculated that Northern Rock may become the next Railtrack, with the government taking control and leaving shareholders out of pocket. One banker said: "The government cannot be seen to be benefiting Northern Rock shareholders. Until shareholders are left with nothing, it is unacceptable politically."

The confusion added to fears and sent the stock tumbling another 28 percent to 185p. However, one of the City's most successful investors, Philip Richards, spent L60m-L65m building a 6.05 percent stake in the bank through is RAB Capital Special Situations Fund in the past two days.

A spokesman said: "His view is that the US Federal Reserve interest rate cut, the Bank of England liquidity injection, and the fact that the mortgage book is pretty good means there is value in the franchise and the business." The fund typically invests on a one- to five-year basis, though may be looking for more rapid returns on this occasion.

Banking stocks fell in unison as the Treasury clarified that its guarantee was for Northern Rock alone, and only on customer savings "existing at midnight on September 19... [including] future interest payments ... [and] accounts re-opened in the future by those who closed them between September 13 and September 19". Alliance & Leicester slipped 7.4 percent to 755.5p, HBOS fell 4.2 percent to 837p, and Royal Bank of Scotland dropped 3.2 percent to 521p.

Regulators added that they are investigating "unusual" movements in Northern Rock shares. "Clearly there have been some large movements," Clive Briault, managing director of retail markets at the Financial Services Authority, said. " We always take a look when there have been large, unusual share price movements."

The Treasury said: "This is not a nationalisation, as we'd have to own it." A spokesman added that underwriting Northern Rock's existing debt would encourage investors to leave their funds with the bank and so limit the liquidity squeeze that has been the cause of its problems.

"The signal to the market is that there should be confidence in the bank so it can get up and running again," one source said. The guarantee will be extended to other banks in the same position as Northern Rock.

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