How to Protect Yourself from a Bank Run
Companies / Credit Crisis 2010 Apr 12, 2010 - 05:47 PM GMTBy: DailyWealth
An elderly woman was panicking...
"It's my life savings we're talking about, my pension. I'll have nothing left if they go under," she said.
A rich couple nearby was panicking, too. They weren't just sobbing like the old lady, though. They had nearly $2 million in the bank. This was the fruit of a life's work... and they were about to lose it all. They'd barricaded a bank manager in his office and were threatening him.
Can you imagine how you would feel with your life savings trapped inside a bank... with hundreds of people in line ahead of you and the police telling you to go home?
In September 2007, Britain's eighth-largest bank, Northern Rock, announced to the public that it was running out of cash and would have problems honoring customers' deposits. A run on the bank developed. Lines formed at bank branches all over the country. Violence broke out in some instances. The police were called. Branches were suddenly closed down. Few people were able to get their money...
Fortunately for the Northern Rock depositors, the British government guaranteed all Northern Rock's deposits... and the panic dissipated after a few hours. No one lost money.
As I reported earlier this month, thousands of banks in America are going to fail over the next three years. Most Americans believe the U.S. government is safely insuring their bank deposits. But it's impossible to predict what havoc this wave of bank failures will create. Although it seems unlikely right now, some depositors could lose their savings and we could even see bank runs again...
The FDIC is the institution in charge of protecting bank deposits. The FDIC is supposed to maintain a pool of funds to insure America's banking deposits. This pool is empty. In fact, according to the FDIC's latest report, the pool had sunk to a negative $21 billion as at the end of 2009. Forty-one banks have collapsed so far this year, so the deficit must now be nearing $25 billion.
The head of the FDIC, Sheila Bair, has said the FDIC's insolvency is possible and she's assessed a one-time fee on every bank the FDIC insures in an attempt to cover the deficit. For some small banks, this onetime fee could consume an entire year's profits. Paradoxically, this fee could end up causing even more bank collapses.
So what can you do to protect yourself?
First, get as much money as you are comfortable with out of the banking system. I only keep a few thousand dollars in the bank, for convenience. I keep the rest of my savings in Treasury bills. T-bills are the safest financial instruments in the world. They don't pay any interest, but neither does your bank, so you don't have anything to lose by investing in T-bills. To buy T-bills direct, go to www.treasurydirect.gov and open an account with the Treasury.
Second, keep a stash of physical cash. Make sure you secure it from fire and theft. I recommend you store at least three months of living expenses. I count gold and silver as cash, too. At the least, you should own a small bag of silver coins. You can trade these in small denominations if you need cash. Asset Strategies International offers the most competitive prices I've found on bags of silver coins.
Three, if you already have deposits in a troubled bank, don't panic. Remove your money and deposit it in a safer bank. If withdrawing your funds will incur a fee, wait for your deposits to mature and then withdraw your money.
Finally, if you must hold significant sums of money on deposit in the banking system, choose only the safest banks. How do you judge which banks are safe and which are risky? They're quite easy to spot. Did your bank expand aggressively from 2002 through 2007? Did it offer higher than average CD yields? Did it expand its loan portfolios aggressively? Is it based in South Florida, Atlanta, Las Vegas, Southern California?
If you answered yes to any of these questions, there's a good chance your bank has taken some big risks. It's probably not safe.
Is your bank trying to participate in the FDIC's auction process? If so, then it's a safe bank. The FDIC only allows well-capitalized banks to participate in its auctions.
In America's modern economy, the idea you could lose your money in a bank failure seems farfetched. The fact is, thousands of banks are about to fail and the FDIC's deposit insurance fund is showing a deficit. Besides, banks pay almost no interest right now, so apart from the convenience of a small checking account balance, what's the point in keeping your money in the banking system? There isn't one.
Good investing,
Tom
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