Everything is a loan - an insight into Financial Law

Ever heard of a bond? What about a note? In fact, what about revolving credit facilities, crowdfunding, supply chain finance, peer-to-peer finance, payday loans, a line of credit; or structured products like interest rate-linked notes, exchange-traded note, foreign exchange, and commodity-linked note? This is where you are expecting me to say that they are all simple loans. Well, the truth is that is only partially true (sorry for the clickbait!).

Each of these loans has its own characteristics which make it unique. However, if you take away the financial jargon, and strip away the added layers that make these financial products, they are loans. That is all self-explanatory, and you probably did not need me to peel back the layers to the obvious. “Banks give out loans.”

What a surprise.

But what if I told you, that the loans given out by banks are not solely derived from the profits they generate themselves; or through some mystical reserve they have stashed away at the end of the rainbow? Their loans are based on loans as well. Loans made by you, Reader. If you have a current account, and you deposit money into it, you are effectively making a loan to the bank which, in turn, loans the money to fund enterprises and business ventures. The relationship between the depositor and the bank is what is coined, even in law, as a contractual, debtor-creditor relationship.

Do you invest in companies? Congratulations, you have participated in a loan because you have lent to the company with the expectation that the shares will appreciate in return for a profit. All of the above, the simple base structure of a loan, is what is described in international financial law as a “funded position”. What essentially happens is an exchange – between cash and risk. If I lend Person A £5.00 to buy an overpriced cup of coffee, I give Person A cash in exchange for the risk that they will not pay me back.

This is important because one might ask, “What if I purchase my shares on the secondary market on an online trading platform?” It is still a loan! The only difference is that, now, the risk has been reassigned from the initial shareholder to you, the current shareholder. Going back to the previous example, I now borrow £5.00 from Person B, and I tell both A and B that A no longer owes me cash. A only has to pay B £5.00. Assuming that A and B both agreed, what I have achieved is a similar situation to the shareholder example, where I no longer bear the risk of A not returning my money to me.

Thus, financial law is ultimately the law which manages risks (or more accurately credit risks). Once you have understood this, the rest of these complex structured products become much more easily understood. Let’s up the ante with a revolving credit facility. It is characterized as a line of credit – which means that you can freely withdraw from a pool of funds, and repay and reborrow as you go for a period of time. This financial product usually comes ripe with simple positions and asset-backed positions. For example, a guarantee from the directors of a company and security – where I allow you to repossess my car if I fail to repay the loan – respectively. Ultimately, however, what is the revolving credit facility other than a loan with more unique terms?

At this point, you might be asking “simple positions? Asset-backed positions? What’s all that?” Well, wait until you hear about net positions! Unfortunately, this article cannot possibly cover this entire topic in one go. However, if I have managed to pique your interest, all of this insightful knowledge is what I have gained from my three-weeks studying at LSE in one of their Summer School courses, LL206: International Financial Regulation in the Digital Era. 

If you are interested in learning more about the world of financial law, this summer school programme will surely broaden your horizons, just as it did for me!

 

This blog was written by one of our 2022 Student Ambassadors, who are here to share their stories and help you understand the summer school experience at LSE.