Close Brothers expects £320m hit from new FCA motor finance scheme

Close Brothers expects costs of approximately £320m from the UK motor finance redress scheme, versus an existing provision of £294m as of January (incremental ~£26m). The estimate reflects the FCA's policy statement on compensating customers for historic commission arrangements on car loans. The uplift is material to the group's provisions and could weigh on near-term earnings and capital metrics, but is not catastrophic to the firm's financial position.

Analysis

This is primarily a re-pricing of legacy conduct risk into capital markets rather than an ongoing earnings impairment. Expect market participants to treat this as a discrete remediation cycle that redistributes losses across originators, balance-sheet holders and noteholders of securitisations; the most acute vulnerability is to small, specialised originators whose ROE is already narrow. Second-order effects: originators will tighten underwriting and raise new-loan pricing, which should increase new-origin margins by several hundred basis points over 3–12 months but reduce new volumes and increase residual-value risk in the used-car ecosystem.

Capital and funding are the transmission channels to monitor. A one-off remediation charge of this profile typically reduces CET1 by low-double-digit basis points but can shave 1–3 percentage points off headline ROE in the following year if management opts to preserve buffers rather than cut dividends. Near-term catalysts that could exacerbate stress are regulatory clarification that expands customer cohorts, adverse court rulings, or forced buybacks/restructures of securitised pools — those play out over 3–24 months.

The consensus knee‑jerk is to punish equity of exposed niche lenders; that may overshoot. If remediation processes are well-scoped and covered by existing provisions, downside is limited and operationally competent servicers can monetise stressed portfolios (buying seasoned paper at a discount) creating a recovery path inside 6–18 months. Key monitoring items: next quarterly capital report, FCA follow-ups on scope, and residual-value trends in wholesale used-car channels.

Key Decisions for Investors

• Buy a defensive put spread on CBG (Close Brothers) to limit premium spend: purchase a 3-month 20% OTM put while selling a 3-month 10% OTM put sized to the position. Timeframe: 0–3 months. Risk/reward: max loss = net premium; payoff ramps materially if equity re-prices >15%, hedging headline downside while keeping cost low.
• Initiate a 3–6 month equity pair: short CBG vs long HSBA (HSBC) equal notional. Timeframe: 3–6 months. Risk/reward: targets asymmetric capture if conduct concerns compress small-cap lenders by 15–30% while large diversified banks re-rate less; tail risk if system-wide bank stress hits both legs.
• Buy protection on unsecured funding of niche consumer lenders (or go long CDS on 1-year tenor for names with concentrated motor books). Timeframe: 6–12 months. Risk/reward: relatively cheap insurance if market starts repricing sector funding; pay small running cost to cap equity downside and benefit from spread widening scenarios.
• Deploy selective capital into secondary motor-loan merchandise: allocate to a specialist manager or buy senior tranches of discounted used-car ABS with 6–18 month horizon. Timeframe: 6–18 months. Risk/reward: capture elevated spread pick-up (100–300bps) as remediation drives supply of seasoned paper; main risk is a prolonged litigation expansion that depresses recoveries.