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Banks punished for complacency

By: BILL BLEVINS

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Bill Blevins is Managing Director of Blevins Franks. He has specialised in expatriate investment and tax planning for over 35 years. He has written books and gives lectures on this subject in Southern Europe and the UK.

BACK IN February 2007, when HSBC unexpectedly announced a rise in bad debt provisions at its US mortgage business, BBC journalist Robert Preston warned that there was “a slightly complacent view around in the banking industry that these days the banks are living in a risk free world, that the days of lending going horribly wrong are past”.

Bankers have certainly learned their lesson the hard way since then. As we now know only too well, those days were not past at all and banks were living in a very risky world indeed.

Over a year after HSBC made its announcement, the sub-prime crisis is far from over and the final outcome remains unknown.

Indeed, one of the most alarming aspects of this crisis has been the apparent inability of banks to recognise the potential problem or predict what their losses will be with any accuracy.

For example, the Chairman of UBS admitted that at this bank “the people concerned and their supervisors failed to recognise properly the size and changing nature of the positions that were being established. Risk control and finance had the numbers but failed to realise in time what they truly meant”.

The perception is that banks themselves do not know how bad things are.

They have confessed to 120 billion dollars of losses so far, but last month finance chiefs from the G7 group of countries warned that the total loss is likely to be around 400 billion dollars.

Many believe this estimate is on the low side.

The list of losses already announced includes high individual amounts of 18 billion dollars from Citigroup, 14.1 billion dollars from Merrill Lynch, 13.5 billion dollars from UBS and 9.4 billion dollars from Morgan Stanley.

British banks have recently begun submitting their annual reports, starting with Bradford & Bingley, which announced a 94 million pound sterling write down.

Alliance and Leicester’s profits tumbled 29 per cent after a write down of 185 million pounds sterling and its funding costs will be 150 million pounds sterling higher than normal this year because of the credit market problems.

These are figures until now – what will happen over the next year or two is still to be determined.

Some banks have more than just the actual sub-prime losses to contend with.

Swiss bank UBS is being sued for alleged mis-selling of sub-prime mortgage securities, which could open the floodgates for litigation against other banks.

Credit Suisse has suspended traders after finding a black hole of almost three billion dollars on its books.

And of course, rogue trader Jérôme Kerviel recently lost 4.9 billion euros (£3.7 billion pounds sterling) for Société Générale.

Reality

When you deposit money in the bank, it’s easy to imagine it sitting there safe and sound, waiting for when you want to take it out.

But in reality, while the bank does pay you a little interest, the bank uses your savings to make money by lending them to another person/financial institution at a higher rate of interest.

This is all very well and good provided the bank can return your money any time you ask for it but what happens if for some reason they don’t have the funds to do so?

The sub-prime and Northern Rock debacles have opened people’s eyes to the risks banks take with their money and that it’s possible for banks to suffer serious financial difficulties.

While the Bank of England cut the base interest rate twice in the last four months, many banks have not passed it on to their clients.

While this appears to be unexpected good news for savers, you have to ask yourself why.

The simple answer is that the banks need money and are competing to attract cash from savers.

It’s no coincidence that Northern Rock is offering some of the best savings deals around.

As the price comparison site Moneyfacts.co.uk points out, the desperate need to keep cash coming in is one reason for this apparent generosity.

To what extent are your bank savings protected?

While the collapse of a major bank remains quite unlikely, the adage that you shouldn’t keep all your eggs in one basket is as true of cash in the bank as it is for investments, and you should certainly be aware of what protection your savings have, especially with offshore banks.

In the UK, the Financial Services Compensation Scheme will refund 100 per cent of the first 35,000 pounds sterling if the bank is authorised by the Financial Services Authority. Anything over this would be lost.

The Chancellor is in consultations to raise this limit but appears to have backed away from increasing it to 100,000 pounds sterling.

Compensation is per institution, so if you spread your money over different accounts at the same bank, you will only receive a total of 35,000 pounds sterling.

If you divide your savings over different banks, you may miss out on the higher rates of interest.

Most expatriates keep their savings in offshore accounts in the Isle of Man or Channel Islands.

Unfortunately, even if your bank is a subsidiary of a UK bank, it is the local compensation schemes that will apply, not the UK ones.

The Isle of Man’s compensation scheme will refund you 75 per cent of your deposit, subject to a maximum of just 15,000 pounds sterling.

This is, however, better than Jersey and Guernsey which currently don’t offer any deposit protection whatsoever.

It’s important to diversify your savings and investments and take all possible steps to mitigate risk.

You’ve worked hard for your money – you should now protect it as much as possible.

Blevins Franks will be discussing this topic and the potential solutions at its spring seminars.