New York, 16th October 2007

Dear Fellow Shareholder,

On 4th September 2007 we wrote to Stephen Green, Group

Chairman, requesting that the Board conduct an

independent review of HSBC’s strategy and governance to

address long term underperformance of its shares relative to

that of its peers.

We also contacted Simon Robertson, HSBC’s Senior

Independent Director, to present the evidence and analysis

underlying our request for an independent review.

Our analysis was conducted with the involvement of a

leading firm of international management consultants over

several months.

On 19th September,

45 minutes before the meeting arranged

to discuss the evidence,

we received faxes from Messrs. Green

and Robertson rejecting the request for an independent

review on the grounds that the Board had already met earlier

in the year to discuss strategy. The assertion made was that

HSBC has a clear strategy and that this is supported

by shareholders.

This may well be the case but we question whether the Board

(and shareholders who were consulted) received a truly

independent and objective picture of the Group’s poor

competitive position in most of its key markets.

We also question whether the Board was given (or was

otherwise able to obtain) independent information it would

have needed for an impartial assessment of the value to

shareholders of alternative strategies.

We have, of course, seen the “new” strategy which was

communicated to shareholders in March this year. This

emphasised HSBC’s commitment to invest in emerging

markets (but without changing the long-standing aim of

deriving 50% of income from emerging markets and 50%

from OECD markets) and to benefit from the increase in

world trade and from the fact that we are all living longer.

We believe, however, that this “new” strategy fails to address

the main reasons for HSBC’s perennial underperformance

compared to the majority of its peers.

Given the Board’s unwillingness to take our proposals

seriously, we decided to take our evidence and analysis to

more than 40 of HSBC’s largest shareholders, in several cases

meeting them more than once.

The responses we received were far more supportive than we

had been led by HSBC to expect. For the record, only two

shareholders refused to meet with us. Most of the rest agreed

that there are real areas of concern to be addressed by the

Board concerning strategy, execution and/or governance,

some of which they had not been aware of before. We have

seen some of the letters that institutional shareholders have

sent to HSBC supporting our initiative as well as some of

HSBC’s responses. We also know that many institutional

shareholders have asked to meet with the Board and

management privately to discuss the issues raised by

our analysis.

Needless to say, the real challenge will be to

find the right answers. However, the starting

point must be for the Board to accept

the validity and legitimacy of shareholders’

concerns in the first place, to accept that the

review carried out at the beginning of the year

may not have been sufficient, and to start

acting independently. This is what we – and

the many shareholders of HSBC who support

us – are seeking at this stage.

We are now making our report available to all interested

parties. You should note that we have amended the report to

incorporate the many helpful and constructive comments and

suggestions made by some of HSBC’s largest shareholders.

The following is a summary of the key points of the report.

Share Price Performance

• It is uncontested that HSBC has underperformed its chosen

peer group of 28 leading banks in terms of total

shareholder return (TSR) for a very long time. HSBC has

been a third quartile performer for all but two periods

going back to 1994 (i.e., over 2 years, 3 years, 4 years etc.)

and a fourth quartile performer against its 22 largest

emerging markets competitors, which would have been

part of the peer group prior to 2005.

• Over the past 12 months, HSBC’s performance has been

better, but our evidence suggests that this is due to its

emerging markets exposure and not due to its strategy of

diversifying its income globally during the recent market

turmoil. There is no evidence to suggest that diversified

global banks have systematically outperformed during 2007.

Strategy

In retail and commercial banking there are significant cost

and revenue advantages in securing local scale. In investment

banking and capital markets the benefits generally accrue to

global players. HSBC fails to capture advantages in either of

these areas because it is pursuing a global strategy in retail

and commercial banking and a regional (emerging markets

focused) strategy in investment banking. It is the only major

bank to be doing so.

Retail and commercial banking

• Approximately 70% of HSBC’s 2006 profits before tax

came from retail and commercial banking. HSBC has for

years been misallocating capital in this area by seeking

to diversify the geographic source of its earnings rather

than aiming for critical mass in selected markets where it

has real comparative advantage.

• HSBC is not a top three player in any of its key retail

markets except for Hong Kong, and its profitability

compared with that of its local peers has been weak as

a consequence. HSBC’s return on assets is lower than

the local market average in the U.K., the U.S., France,

Mexico, Brazil and India to name but a few. In many of

these markets the issue is simply lack of scale.

• Over the past few weeks HSBC has proposed (or is

pushing ahead with) new initiatives in Korea, Vietnam,

Japan, Georgia, the Czech Republic and Peru. In none of

these markets is it obvious that HSBC has any

comparative advantage at all. These initiatives simply

add to the number of subscale businesses in the Group.

• HSBC’s obsession with diversification has also resulted in

a substantial portfolio of minority stakes in companies

which it does not fully control.

Investment banking and capital markets

(CIBM)

• In investment banking and capital markets HSBC is not a

leading player globally, or in any geographic market or

in any key product area.

• Over the past 15 years HSBC has repeatedly attempted to

build a leading business in these areas, both organically

and by acquisition, but has failed.

• We are convinced that HSBC’s recent decision to

compete on a regional basis (i.e., focusing on emerging

markets) will result in further massive value destruction.

• As demonstrated by HSBC’s weak position in China’s

2006 capital markets league tables (24th with respect to

IPOs and 20th with respect to debt issuance – according

to Thomson Financial), even emerging market issuers

need to deal with global firms.

India and China

• India and China pose a particular conundrum for HSBC,

whose roots in Asia, it might be argued, give it a

particular advantage. In fact, the answer is not as

straightforward as some might think.

• Whilst recognizing that India and China are tantalizing

prospects, the fact is that HSBC has chosen to compete in

retail banking against domestic competitors which

already have scale and critical mass as well as

government sponsorship and legal protection.

• HSBC may have to recognize that in these two markets,

the issue is not government protection but the

difficulties of acquiring sufficient scale (as elsewhere).

Even if the restrictions on acquiring domestic banks were

lifted, it may make no sense for HSBC to do so given the

high multiples at which these banks trade and

the limited synergies that are likely to arise from

integrating these retail franchises with HSBC’s existing

retail activities.

• In these markets the real opportunity may only be

available to full service investment banks operating in

the capital markets, and not in retail banking. HSBC’s

weak position in investment banking and capital

markets limits its ability to compete in the part of the

market which is growing fastest and has the fewest

restrictions on foreign companies.

• This leads us to ask ourselves if HSBC really has a

differentiated strategy in these markets. If so, this needs

to be articulated.

Other

• HSBC needs to recognize that its strong capital position,

which has been fungible in the past, may no longer

be such an advantage in the future, particularly in light

of the requirement to incorporate and capitalize

its regional businesses separately for local regulatory

purposes.

• HSBC’s Hong Kong business is already incorporated and

the decision to incorporate its Chinese business has

already been taken. The Indian businesses will also be

incorporated before the end of 2009.

• That means that HSBC may well have no surplus capital

at all.

Questions for the Board

We believe that the time has come for the Board to ‘grasp the

nettle’ and ask itself some difficult questions.

• Does it make sense for HSBC to continue allocating capital

to acquire an ever growing number of subscale local banks

or should it not aim to build critical mass where it has true

competitive advantage? Shouldn’t HSBC decide which of its

retail and commercial banking businesses are truly core

and scale these up rather than pursuing diversification

(beyond what might be optimal) for its own sake?

• If HSBC is to secure real value from its investment in its

OECD businesses, it will either have to grow them,

organically or by acquisition, or it should consider selling

them to others who can benefit from local consolidation.

Given the size of these retail banking businesses, the

decision to retain and grow them will require HSBC to

allocate significantly more capital to the developed

markets than is currently being suggested. The Board must

take a view on this and communicate its position clearly.

• Buying minority stakes in listed emerging market

companies could be regarded as buying ‘options’ for the

very long term. Just how many such ‘options’ should HSBC

be holding, particularly when the capital used to acquire

them cannot be counted towards HSBC’s capital base for

regulatory purposes?

• If HSBC is unable to build or acquire a leading global

capital markets platform, should it not consider liquidating

the majority of this business which absorbs half of the

Group’s balance sheet rather than carrying on with a

strategy that has little prospect of success? Or should HSBC

not merge with a competitor which truly has global scale?

• If the future of the Group is really in China, how does HSBC

plan to become a leading player – without diluting its

shareholders by overpaying for acquisitions – when the

restrictions are finally lifted?

We estimate that, without a significant change in strategy,

“joining up the pieces” will add no more than 3% to

HSBC’s total value. The Emperor needs to be told that he is

not wearing any clothes: there are almost no synergies

associated with being the ‘world’s local bank’.

Governance

• In most major UK companies, a challenge to a failed strategy

may come from one of at least three different quarters: from

the Chairman, from the non-executives directors or from the

ranks of senior management.

• In the case of HSBC, the Chairman (who is responsible for

strategy and governance) is not independent and the

management compensation arrangements (as embodied in

the 2005 Share Plan) do not align the interests of

management and shareholders.

• This places the non-executive directors in an unusually

difficult position.

Conclusions

In our view, there are a number of different strategies which

could deliver significantly more value for shareholders than

the strategy which HSBC has chosen to follow today (which is

really little different from that which was followed in

the past).

Although we have avoided being prescriptive

to date, we believe that our analysis

inescapably leads to the conclusion that, in

order to unlock the very substantial value of

the Group, the Board needs to consider some

radical alternatives.

In the mean time, HSBC should call a halt to the strategy of

diversifying earnings for its own sake.

Yours sincerely

Eric Knight

Glen Suarez

Knight Vinke Asset Management LLC

Copies of Knight Vinke’s report “HSBC – Issues and

Recommendations” may be obtained on request by e-mail to

hermitage@kvamllc.com.

OPEN LETTER TO THE SHAREHOLDERS OF HSBC HOLDINGS PLC