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Moral Courage: Toronto-Dominion Bank CEO Refuses to Invest in High-Risk Asset-Backed Commercial Paper

Although the Canadian banks did not suffer as much as other financial institutions around the world, they were not immune from the economic consequences of the subprime mortgage meltdown. In Canada, the earliest crisis concerned the liquidity of asset-backed commercial paper (ABCP) that was affected by the precipitous decline of U.S. housing prices and the related mortgage-backed securities on which those prices were based. ABCP were short-term debt obligations, generally issued by a special purpose entity or trust and secured by a bundle of assets such as mortgages and other types of consumer loans. The repayment and maturity of these ABCPs was dependent on the cash flow of the underlying assets. The ABCPs were issued to investors by trusts that were sponsored or managed by either banks or nonbank financial institutions. The nonbank-sponsored portion of the Canadian market was approximately $35 billion. In July 2007, as the U.S. subprime mortgage market began to deteriorate, the Canadian issuers began to fear that they, too, could face a liquidity crisis that would prevent the recovery of capital or refinancing of borrowings when they came due. As such, in August, a number of nonbank ABCP sponsors agreed to a sixty-day standstill period, called the Montreal Accord, during which the holders (those who had invested in the ABCP) promised not to roll over or redeem their paper at maturity and the issuers agreed not to make any collateral calls. A committee, chaired by Toronto lawyer Purdy Crawford, then began to work out a deal whereby the short-term ABCP could be converted into long-term floating-rate debt that would have a much greater likelihood of recovery or refinance because the underlying assets would eventually recover their value. The agreement required the support of the five major banks in Canada. They were each to pay $500 million in order to shore up the country’s debt market. However, Canada’s third-largest bank, the Toronto-Dominion Bank (TD), balked at the suggestion on the basis that, three years earlier, the bank intentionally had moved to eliminate its exposure in the nonbank ABCP market. In May 2005, Edmund Clark, CEO of the TD, announced that the bank would exit the structured loans products market, including interest rate derivatives and collateralized debt obligations such as ABCPs. The bank decided that it would focus on consumer banking rather than the securities business. Clark, who had a Ph.D. in economics from Harvard, contended that the securities business was too risky. He had been briefed by experts who traded these securities on the nature of credit and equity products and concluded that the risk was too great. “The whole thing didn’t make sense to me. You’re going to get all your money back, or you’re going to get none of your money back. I said ‘wow!’ if this ever went against us, we could take some serious losses here.” The TD generated 80% of its profit from consumer lending and money management. “I’m an old school banker. I don’t think you should do something you don’t understand, hoping there’s somebody at the bottom of the organization who does.”1 Meanwhile, all of the other major Canadian banks invested in the ABCP market. They collectively controlled two-thirds of the ABCP market.2 The yields were high, and everyone was on the bandwagon. It took great courage for Clark to go against the tide. As David Baskin of Baskin Financial Services said, “He’s absolutely to be commended for not getting caught up in the subprime frenzy.”3 And Clark was right. When the ABCP market collapsed, the other banks reported large write-downs on their securities, estimated to be in excess of $2 billion.4 As the commercial credit market began to collapse, the Montreal Accord was extended. The liquidity of the ABCP market was drying up, and only the major chartered banks could help solve the problem. TD was under a lot of pressure to help participate in the repair of the credit market, but Clark’s attitude was “that it would not be in the best interest of TD shareholders to assume incremental risk for activities in which we were not involved.”5 TD was not part of the problem, so he thought it should not be part of the solution. Finally, the federal government, through its agency the Bank of Canada, weighed in, saying that it wanted the problem solved and that it was in both the public interest and the interest of the financial marketplace that all the banks participate in restructuring the commercial paper segment of the market. Since TD was part of the financial community, although it had not created the problem, it had a moral and financial obligation to help. TD could have held out, but as one analyst said, “It’s like protesting going to your mother-in-law’s house for Christmas. Despite your protest, you know you’re going because it’s been determined that it’s in your best interest to do so. In my view, the Bank of Canada will win the argument.”6 On March 13, 2008, the five major Canadian banks, including TD, said that they would provide $950 million to support the newly restructured credit market, in which $32 billion of short-term commercial paper would be swapped for long-term notes.7


1. Because the TD was neither a manufacturer nor a distributor of ABCP products, did the bank have a moral responsibility to assist in the restructuring of the commercial paper market?

2. If you were Edmund Clark, how would you explain to the Board of Directors that you were having the bank exit a market in which your competitors were making a lot of money?

3. The banks in Canada are highly regulated by the federal government. If the banks could not come to a voluntary agreement, should the federal government have forced the banks through legislation to providing $950 million financial support to help solve the ABCP liquidity crisis?

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