TUESDAY 4 DECEMBER 2007

MR CHRIS HITCHEN, MR PETER MONTAGNON, MR GUY SEARS AND MR DAVID PITT-WATSON

  Q1420  Jim Cousins: Where should the money come from?

  Mr Montagnon: Essentially, from the banking system if the banks are the ones whose customers are being protected.

  Q1421  Chairman: Has there been a change in the profile of hedge fund investors with institutional investors increasing their presence in the market?

  Mr Hitchen: That has certainly been true over the past few years. My fund has invested directly in hedge funds for perhaps the past four years, and it may be Hermes is quite similar in that regard. Essentially, we went to hedge funds in search of security. Hedge funds provide capital protection in a way that the equity markets cannot. We have a need for real returns and that is just one way of getting them with less downside risk.

  Q1422  Chairman: Banks have reported very large losses on derivative holdings. The question for us is: how much more has been lost by clients? You referred to insurers who bought similar products sold earlier by the banks. Do you have any ballpark figure? Is it a significant multiple?

  Mr Pitt-Watson: I think the question is: where does the contagion start? Do you take just the CDOs that are absolutely bankrupt, the ones that are marked to model, or the ones that are marked to market, or do you take the knock-on effect on the bond market? Do you look at what has happened to bank shares and then add in what happened to Northern Rock? Do you then think about what has happened to economic confidence overall? These were the kinds of issues Mr Mudie explored earlier. My view is that it could be huge if we do not respond to this sensibly and with judgment. It affects all savers.

  Q1423  Chairman: Do you think that bonus and option policies in Northern Rock and in general encourage executives to take too many risks?

  Mr Montagnon: Sometimes that may be true. In the case of Northern Rock the ABI felt that its bonus policy was too generous and we had flagged it. What that reveals may also be a system whereby the balance on the board is not necessarily operating terribly well because the executives are able to persuade the non-executives to award them too generous pay increases. That may say quite a lot about the relative balance and the way risk is approached and accountabilities on the board.

  Mr Hitchen: We do always try as far as we can to promote this, but the basic problem I suppose is that whereas we are trying to invest over 20, 30 or 40-year periods and be owners you cannot really expect an executive to take such a long timeframe into account.

  Mr Pitt-Watson: The answer is yes and it is exacerbated by marking things to market and marking things to model. Therefore, in the years when things look good you can take your bonus and hope that that is still in the bank when things go bad. Of course, the original investment is from other people's money.

  Chairman: I do not think you have any messages left unsaid. It has been a long session. Thank you for your evidence.