Foreign Perspectives

Archive for the ‘Banking’ Category

With 20/20 hindsight, Northern Rock was an obvious disaster waiting to happen.

When a relatively small regional bank turned out to be writing 20% of all of the UK mortgage market, weren’t some warning signals coming up? After all, that kind of growth in market share implies a very aggressive approach to marketing and indeed on pulling in money to fund all those mortgages.

Bear Stearns, along with many pure investment banks, tends to have quite an aggressive approach to running it’s own book too As it turned out, it was a little too optimistic with the projections and ended up just as bankrupt as Northern Rock for pretty similar reasons.

The approach on both sides of the Atlantic was quite different. Whereas the UK government continued to dither about and ended up taking over the bank itself, the Fed was much more aggressive in going for what needed to be done. They simply transferred the bank to JP Morgan (“sell” isn’t the word to use given the price paid) and backed only the residue of the business that couldn’t be easily transferred.

Which is the right approach and what’ll happen next time around?

Unfortunately, neither is really “right” in the sense of being a workable solution to the problem of the debt crisis. In both cases, a signal has been sent out that significant banks won’t be allowed to go bankrupt and that the government will take over the highest risk aspects of any bank when necessary. I’m not sure that’s a good message to be sending out at the moment as it implies that there’s no risk too much.

On the other hand, would it be better to have let one of those banks go bankrupt? Northern Rock had a major slice of the UK mortgage market and large numbers of savers so letting it go wouldn’t have been good for the government at the next election for sure. Although Bear Stearns hadn’t as many private clients they’d have been pretty vocal ones given the amounts involved but aside from that the bank was a major player with many interlinking deals and would have caused severe repercusions had it gone down.

Sadly, it’s looking like these two banks are merely tasters of what is to come if the credit crisis isn’t sorted out very soon.

If you’re considering investing outside your own country whether it be in shares or in property you need to consider the interest rate in that country relative to your own and the echange rate with your own currency.

The two tend to be linked and can rarely be considered totally in isolation. If you consider relatively stable currencies then a higher interest rate will tend to make a currency more valuable and conversely a lower interest rate will tend to make it less so. I say “tend to” because it’s far from a direct link as exchange rates are notoriously fickle: if markets take a view that a currency is overvalued then it’ll go down regardless of how high the interest rates are raised in that country.

However, unless you’re into short term trading it’s largely trends in exchange and interest rates that are important rather than the value that either may have at a given time. In fact, the neither the interest rate nor the exchange rate at a given point really matters a great deal but what you do need to do is to keep an eye on the exchange rate which is, usually, the most important variable when you’re investing outside your own country.

This also affects how you should keep score. Say you’re in the UK and you’re investing in America. In that case you need to measure the performance of your portfolio in dollars, not pounds. To rate the performance in pounds is just going to create a false performance statistic as it’ll be affected by the ups and downs of sterling vs the dollar and those can be quite substantial: in the last 20 years the pound has ranged from around $1 to the pound to over $2 to the pound. Obviously you’ll still measure your bottom line performance in sterling in this case but the performance of the portfolio itself is best charted in dollars.

By far the most popular post on our Whole Earth Guide is the one detailing how to go about opening a bank account in America.

The reason is simple really: if you run an online business then sooner or later you generally find yourself in need of an American bank account. Unfortunately, the increased security measures in place post 9/11 mean that it’s not quite so easy to open one these days unless, of course, you’re living in America and therefore a considerable number of websites have grown up with the specific aim of selling you the required information.

Our site doesn’t charge for that information and therefore is increasingly popular as it provides exactly the same information that other sites charge anything from $5 to $250 to provide.

However, we’re sorely tempted to start charging for it too given some of the emails we’ve received demanding additional information and wanting to know why it isn’t on the site yet. What we’ll likely do is to charge for the hand-holding level of information or at least offer it for sale as the information on the above page is quite sufficient to allow anyone to open an account in America.

The events surrounding the slow death of the Northern Rock mortgage bank get more and more surrealistic by the day.

Back in July last year it was actually the leading mortgage lender in the UK with 19% of the entire market for new mortgages sold in the first half of the year. Bearing in mind that it’s basically a fairly small building society this should have been the first sign that trouble was ahead as it meant that to source the funds for those mortgages it had to move well outside it’s traditional deposit base and borrow on world markets to find the money.

Just two months after announcing these fantastic results we find that the bank needed to go to the Bank of England for emergency support which, of course, it was granted. The next day the troubles began in earnest for the bank as everyone tried to reassure the customers that everything was fine. Of course, it was far from being fine as the large queues of depositors asking for their money bank well knew on hearing this announcement. On September 17th, just three days later the government moved in to guarantee the deposits held by the bank, subsequently extended on October 9th to include all deposits made regardless of the date.

Moving on to today we find that the government has provided some �25 billion (around �1000 from every family in the country) to support the bank and here’s where the magical world of finance really kicks in.

Although the bank seems to have enough security to repay all of it’s debts, to repay everyone would entail calling in the mortgages on an awful lot of people which obviously wouldn’t go down too well and might not even be possible legally for those that have been keeping up their repayments. Of course this is the same situation for all banks: if everyone wanted their money back at the same time there just wouldn’t be enough on hand. Therefore, in a sense, it makes sense for the government to provide backing to avoid repossessions on a wide scale and to provide confidence in the banking system in general.

However, the government clearly need the money back at some point unless they want to nationalise the bank.

The snag is that there is really no way for them to actually get the money back. So, what they’re doing instead is proposing�selling bonds to the value of that £25 billion. The problem with that is that nobody wants to buy bonds from a bankrupt bank and therefore the government will have to provide the security for the bonds too which means that they won’t be clear of that £25 billion for some years, if ever (some similar bonds issued for the first world war still haven’t been repaid!).

And, of course, this is just one bank. Granted, a bank that over-extended itself but who’s to say that there aren’t a few other banks around in a similar situation or who could find themselves in such a situation if the current squeeze on credit worldwide continues?

You’d think that that these days banking practices around Europe would be fairly standard. After all, the banks handle international business every day so they’re in constant contact with their counterparts in other countries.

Of course, it’s one of many areas where European business practices are far from standard.

Take the UK and France for example. Two countries with a very long history of interaction so you’d think that many things would be similar except that they aren’t.

In the UK, credit cards are commonplace and it’s normal, expected even, for people to have several of them. In France, credit cards are a relatively new phenonmen and remain very rare.

In the UK, almost everyone has an overdraft and the banks prefer you to be permanently overdrawn as they collect more fees that way. In France, they’ll close your account if you’re overdrawn more than a couple of months.

In the UK, debit cards don’t have any purchase limit on them. In France, you can’t buy more than 3000�� a month usually, which is why you often see people resorting to cheques towards the end of the month.

In the UK, nobody will accept a cheque without a cheque card (a card issued by their bank and guaranteeing the cheque will be paid). In France, almost everyone until recently accepted cheques because if you bounced a cheque you could be banned from having a cheque account at all. That actually worked well until very recently when the economic situation seems to have caused something of a run on dud cheques so the effect is that more and more businesses don’t accept cheques which is sure to cause trouble soon so long as that debit card spending limit remains.

Any one of those differences can easily fell you if you don’t know about it in advance.