Tan Kin Lian's Blog: Financial stability of banks

Wednesday, March 24, 2010

Financial stability of banks

An asset manager offered this interesting perspective. When you put your money in the bank, you do not own the assets of the bank. The bank just give you a fixed deposit certificate or a monthly statement, i.e. just a piece of paper. If the bank gets into financial difficulty, you may lose all of your money. Your protection is up to the amount of the deposit insurance scheme or government guarantee.

During the financial crisis in USA, many large banks were on the verge of collapse. If the government did not step in to bail out the banks, many people would have lost their savings in the failed banks.

He told me that it is safer to invest in shares as the investor directly owns a share of the invested company. A unit trust allows diversification into many companies, with the assets held by the trustee company (and not the fund manager).

My friend, who worked several years in Vietnam, told me that the banks offered high interest rate, but the people were afraid to put their savings in the bank, as they were afraid of bank failure. They invested in other assets, such as life insurance, property and gold. But they avoided the banks.

Singapore banks now enjoy full government guarantee on their deposits, but this guarantee will expire soon. After that, the money will be exposed to the same risk faced by banks elsewhere. Although the local banks have high credit rating, the deposits are still exposed to the underlying risk

People who put their money in the bank should look for a higher interest rate that is much higher than the 0.5% paid by the bank. If not, it is better to invest in a low cost investment fund, and manage the risk through diversification and long term investing.

Tan Kin Lian

10 comments:

Anonymous said...: Banks pay around 0.5% interest for 12-month fixed deposit. Saving accounts get almost nothing. If factor in inflation, puting money in the banks is getting native return. i.e. your money is strinking.

Invest in shares, potentially, give higher returns. But there are many sad stories about share investments. Many people lost their money because the companies their bought in collapsed. Recently, there are many China-based companies defaulted in their debts and were delisted or suspended from SGX. Because of these, there are many people view that investing in shares is gambling. I strongly disagree. Return from share investment can be good and stable if you do your home work before buying, never buy shares base on rumours. Or just invest in ETF which tracks blue chips performance and pays regular dividend that are higher than bank intests.

CCL; March 24, 2010 10:15 AM
Vincent Teo said...: Mr Tan

So apart from STI ETF and those infinity series index funds, are there any other "low cost funds" that we can invest?; March 24, 2010 10:40 AM
Anonymous said...: Many ETFs are issued by commercial banks which carries the same risks
as fixed deposits should these banks fail.
Other than putting money in the very blue chips in the stock market, I don't think there are any
safer avenues to invest our money.
Even placing money in deposits in
the foreign currencies are at risk
should the banks fail, even though
currencies would not go bankrupt,
it's the banks holding these deposits that may fail.; March 24, 2010 11:28 AM
Tan Kin Lian said...: Reply to 11:28 AM

Your view is most likely incorrect. The assets of the ETF are held by trustee companies. If the bank (promoting the ETF) fails, the assets are likely to be safe, as they are segregated from the assets of the banks.

Do examine the actual structure of the ETF, i.e. who holds the assets.; March 24, 2010 11:36 AM
Anonymous said...: Very good point, thanks Kin Lian.
My personal analysis in Singapore is our big three may be in for trouble in the next few years. DBS Bank just have a new chairman (Peter Seah to replace Koh Boon Hwee) at a time when their CEO is still not yet warm up his seat at the bank.
At the same time, their exposure to the Dubai debacle may cost them a leg or an arm.
What puzzles me is this : Why the MAS does not use interest rate to manage the Sing Dollar, like all other countries? Could some good soul enlighten us on the advantages of managing SGD with a basket of currencies, which is the tool MAS is using? Why the central bank of Japan don't practice this method? Which other countries are using this method?

Because the bank interest rate is ridiculously low, it is better to keep cash in a strong safe. Or in Malaysia in ringgit account paying over 2% per annum as Malaysia is observed to be pursuing a strong RM policy.
The low interest punished savers and the retired. The CPI has been on the up move in recent months. Yet UOB and OCBC have slashed interest rates for savings and current accounts in February. As a result the real inflation is much higher. Sheng Siong just announced a 30% hike in stall rentals for five wet markets under their management.
By reducing the interest rate, the banks transfer the wealth of citizens to their pockets. They are doing this because they know the global recovery is a scam. They know the next down leg in the global financial crisis is about to begin.
Those who bought properties three years ago at low promo rates will experience interest resets similar to option ARMs in US. And they (banks) better prepare enough ammunitions for the bad loans ahead.; March 24, 2010 11:51 AM
Parka said...: If this is the case, then banks should not be allowed to fail. Translated, it means, banks should not be allowed to invest in anything that's doesn't have a 100% money back guarantee.

A separate bank should be set up just for depositing services only. This will surely give commercial banks the competition they need.; March 24, 2010 12:14 PM
Anonymous said...: Parka,

We used to have such a bank: Post Office Savings Bank. Just deal with savings deposits, fixed deposits, simple chequeing account, straightforward and conservative loans. Giving customers a fair deal, no more no less.

Unfortunately, PAP deemed it as not profitable enough and condemned the situation as an excessive luxury for small market like Singapore to have so many banks. POSB's huge asset base was written to DBS overnight at a stroke of the pen (rumours were that DBS was facing grave danger due to bad property investments and unrecoverable bad mortgages in the Asian Financial Crisis -- our "sub-prime" moment). PAP also orchestrated the demise of OUB and Keppel-TatLee banks through commercial takeovers by UOB and OCBC.

Today POSB has nothing in common with the POSB of old, except for the initials -- which do not even stand for anything today. It is just a wholly-owned entity of DBS Group, complete with their mentality, profiteering approach, and commercial attitude. They should have changed the name, instead of using the goodwill of the old name, like using someone else's backside skin for the face.; March 24, 2010 3:13 PM
Anonymous said...: I am worried about the savings in the banks but these are my hard-earned money and I am not willing to risk investing them and I also dont know how to start. Please advise a layman like me how.

Ryan Low; March 24, 2010 6:38 PM
Anonymous said...: I don't think any of the local big 3 will fail. And should it happen, I think the Sing dollar will kaput, Singapore also kaput, economically that is.

And if anyone worry the above will happen, better make plans NOW to move their assets abroad and to emigrate.; March 24, 2010 8:38 PM
Anonymous said...: Seems to be some fundamental misunderstandings through the post however I'll stick to original post comments (it's a little long bear with me).

All countries have different laws around banking however, excluding any Government guarantee impact, they can be generalised (I do not specialise in Vietnam or Singapore so can't offer specifics):
When (or if) a bank fails any government obligations are paid out first (tax), depositors have the first real right of repayment from assets the bank owns (which admittedly could take some time to liquidate), subordinate note holders are next, general creditors and then always, always last is the shareholders.

This order is the same for those times when a bank is making a loss (or defaulting) but necessarily going bankrupt - the bank will pay deposit holders their interest before any others and shareholders will receive no dividend (and highly likely the share-price will suffer considerably creating a capital loss for the shareholder). Once again the economic outcome is largely the opposite of what has been reported here.

Just as important as the law is the level of competency, political interference, corruption in the banks and regulating institutions (including Government). Generally speaking Singapore's environment is vastly superior to Vietnam. Vietnam banking system is relatively new and suffers from negative perceptions - as your friend has been working in Vietnam this, rather than strict interpretation of the law, may have influenced his comments (and the Vietnamese people's behaviour you mentioned).

What the asset manager has told you is factually incorrect; it cannot be classed as a different of opinion or a perspective. If the fund manger does not understand this then I would consider switching fund managers (management of an organization is usually responsible for its failure not matter what the industry is, Bernie Madoff was a fund manger not a banker). This order is key to understanding the risk / reward relationship and pricing of deposits v's equities.; March 28, 2010 12:58 PM