Irish government guarantees deposits for 2 years

While the US engages in some rather filthy political point scoring the Republic of Ireland government has quietly launched its own rescue plan for Irish banks.  Whether you agree with the politics of intervention or not, there’s no denying that the Irish are all action.  There’s no fuss, no mouthing off, just action.

The guarantee lasts until September 2010 and covers Allied Irish Banks plc, Bank of Ireland plc, Anglo Irish Bank Corp. plc, Irish Life and Permanent plc, Irish Nationwide Building Society, the Educational Building Society and ‘’such specific subsidiaries as may be approved by government,” the ministry said.

The guarantee is being provided at a charge to the banks and is subject to ‘’specific terms and conditions so that the taxpayers’ interest can be protected,” the ministry said.

Government Guarantees Deposits for 2 years, full article here

The guarantee covers up to €400bn – more than twice the country’s gross domestic purpose.

The Irish economy has been having a pretty tough time lately so the move is not surprising.  Given their corporation tax rate of just 12.5% the Irish have already shown willing to compete for business on an international stage and on a grand scale.

Icelandic, european, american and UK banks collapse

This is starting to sounds like something from a film.  Banks are falling like dominoes.  

1. We’ve all been worried about Kaupthing Edge and IceSave but here we are witnessing the nationalisation of Glitnir Bank. The Icelandic Government has taken a 75% stake in Glitnir for around £468 million after the company faced funding problems.  

Given that Iceland is a small nation – something like 300,000 people – whose banks rely on getting funding from international money markets, the news that the Icelandic Crown is down even further today will not help.  The remaining banks will effectively have to pay even more for their borrowing than before.  If Kaupthing Edge or IceSave need to borrow any money in the short term where will it come from?  I had some of my savings in IceSave but have transferred them to a UK bank. 

2. Bradford & Bingley nationalised.  The government provided a £14bn loan to protect customers’ deposits but the interest charged on this loan will have to be paid by other UK banks.  In other words the bank that goes bust leaves a mess that the more prudent banks have to pay for.  

3. The Netherlands, Belgium and Luxembourg have all chipped in to prop up Fortis with £8.9bn.  Smaller nations like Belgium and Iceland bailing out huge banks – I wonder how much money they have left to keep doing it if required.  Come to think of it, how will we keep doing it?  More borrowing.

Also in Europe:

Munich, Sep 29, 2008 – Hypo Real Estate Group has secured a major new credit facility which is designed to shield the company from the impact of the current malfunctioning of the international money markets.

Hypo Real Estate Group, Press release, 29.09.08

Did they say “current malfunctioning”?  I think they mean the current rationalisation of an industry that has been malfunctioning for at least a decade.  Also today, Hypo got rid of quite a few of its directors – strange if it’s just a malfunctioning market.  Anyway, the $50bn loan guarantee should keep afloat Germany’s second biggest commercial property lender.

4. Citigroup is rescuing Wachovia, the fourth largest US bank.  Citigroup is in no great shape itself but if it survives this era of financial meltdown it will be another banking giant.  This period of consolidation is likely to result in some truly enormous banks.

5. $620 billion pumped into the market from the Federal reserve but still markets around the world are today in turmoil.  The $700 billion rescue package or criminal misuse of public funds, depending on your opinion, has just been rejected although no doubt it will be back tomorrow in a different form.  Regardless of whatever measures are taken I am certain that more banks will fall.

So, are my savings safe?  They can be with a few different techniques.  Read my earlier posts How to get 100% protection on savings and Are my savings safe to see how.

How to get 100% protection on savings

There’s been so much interest in protecting savings that I had to mention this little known fact that provides 100% protection for savings.  First, I have to admit that I had not thought of it until my mortgage broker friend, Scott, mentioned it to me.

As you probably know the Financial Services Compensation Scheme (FSCS) covers bank deposits up to a maximum £35,000.  Now, if you have £100,000 saved, how do you protect that?  Some of you will spread it across 3 institutions with different savings accounts and that’s one method.  What if you have £350,000 saved though – are you going to open 10 different accounts?  Possible but annoying.

At the risk of getting sidetracked… one other thing to mention about the FSCS before I go on – although your money is safe, how long will it take to get back?  The wife of a friend of mine made a claim and got her £5,500 back but it took five and a half years!  Admittedly this was a good few years back but who’s to say they’re any quicker now?  And there was no interest paid on the £5,500 over that time.

Here’s how to get 100% protection for savings: take an offset mortgage and put the savings you want to protect in that account.  Offset mortgages work by offsetting your savings against your debt so as an example if you have a £300,000 mortgage and £100,000 savings then you only pay interest on £200,000.  Now, consider the mortgage rate (aside: I bet many of you are uncertain as to your exact mortgage rate at the moment!) as your savings rate since you are saving that interest on your mortgage payments.  It gets better too – as you are not actually earning interest but rather saving interest you would otherwise pay there’s no income tax to pay on it!  Tax free savings with 100% protection?

If your mortgage rate was 6% then this is the equivalent of a savings rate of 10% net of 40% income tax and for lower rate tax payers it’s still a very reasonable 7.5% net.  Where else can you get rates like that? And, because most offset mortgages let you take money back out as you need it you still have instant access to your cash.

Frankly, I’ve always been a fan of offset mortgages so I’m bound to like this but there is a potential downside too.  If your mortgage lender were to go bust – and given recent government action over Northern Rock and now Bradford & Bingley that seems very unlikely – your savings would be offset against your mortgage to reduce your debt rather than giving you cash back.  In other words, you’re forced to use your savings to pay off part of your mortgage.  But actually that would happen anyway if you had both savings and debts with a bank that went bust so it’s not a particular problem of offset mortgages.

So there you have it – 100% protection on your savings.

In recognition of my friend’s help in bringing this to my attention (and of his skill as a mortgage broker) I’m giving a link to Scott’s profile.

Bradford & Bingley to be nationalised

The government has averted what would almost certainly have been another Northern Rock style run on the bank by taking action to nationalise B&B – the UK’s 8th largest bank – before the doors open on Monday.  It is said that depositors will not lose any money.  Apparently they are still looking for buyers for the various parts of the business although the bit that nobody wants will be kept in public ownership.  In other words the UK tax payer will keep hold of the self-certification and buy-to-let mortgage portfolios.

There are some really interesting features both of the events themselves and of the media coverage that it has so far received.

1. There seems to be anger at the nationalisation, not because taxpayers are once again taking on the undesirable parts of the business, but because shareholders are losing their money.

Shareholders who invested £400m in B&B during its rights issue last month are likely to be enraged at a nationalisation. Northern Rock was nationalised earlier this year and shareholders are likely to receive zero.

FT.com

Are they saying that B&B might not have gone bust?  You must be kidding.  Nobody was going to come in and buy them because events are moving too fast for appropriate due diligence to take place.  No bank can afford to take on the risk of buying a failing bank without proper research.  It would be irresponsible to their own shareholders.  And who is expected to compensate them anyway?  The same taxpayers who’ve just bought up the risky mortgage book that only exists because of the irresponsible lending activities that had previously been earning profits for the shareholders?  The FT continues:

However it is possible that the level of compensation paid to investors in this case could be higher, as unlike Northern Rock, B&B was not being supported by an emergency Bank of England loan.

Incredible.  Even more incredible as the FT also says this in the same article:

A further rating downgrade could also make it more difficult for B&B to access the Bank of England special liquidity scheme which some analysts estimate funds around 15 per cent of its loan book.

Don’t they read their own articles?

2. I’ve written about the Credit Default Swap (CDS) market before and it’s interesting to note what happened to B&B just prior to nationalisation.

 B&B, which was downgraded to one notch above junk status, saw its shares sink to an all time low of 20p on Friday. It was facing the possibility of another credit rating downgrade which would have made it almost impossible to raise money in the wholesale markets. Its credit default swaps have ballooned to 1500 – one of the highest of any bank in Europe – making it very difficult for the bank to fund itself in the wholesale markets.

FT.com

THE CDS market doesn’t always predict a bank’s demise but it is certainly a very good indicator of what the markets think about the potential for default.

3. Customers were voting with their feet at the first whiff of danger.

On Saturday B&B pulled in additional staff into its 200 branches to help deal with the larger than usual volumes of customers withdrawing money. There were queuing problems reported in just three branches – Doncaster, Finchley and Southport.

FT.com

Is it time to increase the Financial Services Compensation Scheme maximum to £50,000?  Or would people still panic and withdraw their money?  I wish I had some statistics to answer that question.

Meanwhile we await news of Wachovia and Fortis…

Could Bradford & Bingley be next?

Could Bradford & Bingley be the next Northern Rock?  Their shares have fallen to an all-time low.  Apparently the government and financial regulators are monitoring their performance and Alistair Darling is being regularly updated on the situation by the Financial Services Authority.  This sounds like action will be taken if needed.

Market intervention is flavour of the month at the moment and the Bank of England is about to inject £40 billion into the money markets.  With banks reluctant to lend to each other, the Bank of England feels the need to prop up the liquidity in the market.  But then a couple of weeks ago they offered £25 billion and nobody wanted it. The fact is that the market does what it needs to do to reach equilibrium and no amount of intervention will succeed.  And I really don’t intend that as a gloomy prediction – I’m just saying that whatever the market decides (if that’s not too teleological a statement) is what will happen.

WaMu – the biggest bank failure in US history but not the last

The demise of WaMu was the biggest bank failure in US History.  Nearly 10 per cent of its retail deposits were withdrawn in the lead-up to the failure (mostly deposits that were above the FDIC’s insurance limit).  Talk about shorting banks leading to a fall in confidence?  These days we make a pretty definite statement when we take our savings elsewhere.  It may be a self-fulfilling prophecy but nobody wants to be the last one off the sinking ship.

The failure wiped out shareholders in the bank.  JP Morgan Chase didn’t take on the holding company’s debts, just the juicy bits that were worth keeping. In fact, why would anybody come to the rescue of a bank now in the knowledge that they will be able to buy up the assets cheap after the bank goes into administration?  The best bits of WaMu were sold to JP Morgan for $1.9 billion.  WaMu was valued at over $30 billion a year before its collapse so that’s a pretty good bargain!

So who’s next to go to the wall?  Looks like Wachovia.  The sixth largest US bank saw its shares plummet 27% on Friday and is looking for buyers.  The struggling bank has $122 billion of distressed debts so it’s difficult to see who would want to come in and save it rather than wait for it to go to the wall and come in afterwards to pick up a bargain.

Are your savings safe with Egg?

UPDATE 11 October 2008: although I stand by the majority of this article, my conclusion has changed. Given recent actions by the UK government it is my opinion that savings are as safe in Egg (if you are a UK resident) as any other UK bank.

Egg Savings caused a stir back in the 90s with their internet only savings account that paid (if memory serves) 6% when others were all nearer 5%.  It was new, modern and friendly and all of us young internet friendly types flocked to them with our savings.  That, of course, was a classic customer acquisition strategy.  Just like MBNA entering the UK market with credit cards that were much cheaper than the competition.  Go in with a killer product then expand your range and cross-sell other products to your new customers to recoup your money.

Now it’s a different story.  Now it seems that those offering the highest interest rates may well be the ones that are most desperate for our money.  The ones that can’t buy at a decent price on the money markets which, to be fair, is not uncommon.

I mentioned previously that Egg was sold off by Prudential to Citibank in 2007.  It wasn’t a fire sale but it certainly was going cheap.  I know sometimes we don’t like to think of companies earning huge profits because it feels like we must be paying too much for their products or services but actually if they don’t make a profit then they won’t be around long!  Making a profit is good for the company and the consumer as long as its not an outrageous amount (leaving aside the obscene amounts some banks have been pocketing).

So, not doing that well and eventually sold off to Citibank.  Now Citibank has lost a fair amount in the recent troubles and is looking far less solid than it did.  They were very active in the rather dodgy credit default swaps (CDS) market.  Credit-default swaps are contracts issued to cover potential losses on corporate debt, bonds and mortgage securities. AIG suffered an $11 billion writedown on its CDS holdings. The CDS market is in a real mess – these insurance contracts can go through multiple trades so that when a default occurs the insured party doesn’t know whether or not the holder has the resources to cover the default.  I saw this on Bloomberg:

The $62 trillion market for credit- default swaps, created to protect banks from loan losses, helped fuel a near-meltdown in the financial system and now may be regulated for the first time.

A few points: not regulated!; $62 trillion!; and an ailing $700 billion rescue package.  The credit default swaps issue could be much bigger than the sub-prime mortgage market trouble.  Essentially what is happening is that the banks are over-leveraged (they’ve borrowed too much) and need to get rid of some of their debts.  They will be frantically trying to attract our cash deposits over the next couple of years.

So back to Egg.  It’s covered by the Financial Services Compensation Scheme (see earlier posts) so your money is safe up to £35,000 per person.  The parent company?  Well, I don’t have confidence in any american bank.  People have been talking about the risk of Kaupthing Edge and IceSave going bust but if you look at CDS prices you would think the same of many US banks right now.

Inflation to cut pensioner spending power by 65%

An Ernst & Young report commissioned by MetLife revealed that inflation of just 4.4% would erode pensioners’ spending power by as much as 65% over the next 25 years.  Pensioners are also being hit hard because such a large proportion of their income goes on food and fuel – both of which have increased at far more than the current overall inflation level.

A significant part of the problem is that many pensioners’ incomes are fixed.  A level annuity is one which pays out the same amount for the duration of the product – it stays the same even though the value of this fixed amount is constantly eroded by inflation.  Research from Standard Life warns that those with a pension pot of £80,000 buying a level annuity, will spend their whole monthly income on basic living costs, such as food and fuel within 20 years of retirement.

When you are about to retire and your pension provider sends you the documentation regarding your retirement options chances are you will receive details of a level annuity.  Not only that but it will probably not take account of whether or not you have a partner, quoting single life rather than the joint life you would prefer. This is pretty much the default and for many it is a poor option.

There are other options:

1. An index-linked annuity is tied to the rate of inflation

2. An escalating annuity rises at a fixed rate each year, regardless of inflation.  Some years the rise may be greater than inflation, some years it may be less.

3. You can even link your income to the ups and downs of investments although this can obviously carry more risk.

4. Level annuity – all of the other options are likely to offer a lower starting income than the equivalent level annuity so some people will opt for this if, for example, they do not expect to live long enough for inflation to matter that much to them.

5. An enhanced annuity is available for those in ill health – this can be significantly more than the standard annuity. According to MGM Advantage around 40% of people could be eligible for an enhanced annuity.

6. A mixture of different annuities.

So, whether your interest is in getting more money from your annuity because you are in poor health, passing your annuity income on to your partner should you die, or protecting your income from inflation make sure you investigate all of the options.  Whatever you do, don’t just accept what your provider offers you as you approach retirement – investigate it yourself or seek professional advice.

Are annuity rates about to fall…forever?

There are rumblings in the press about a possible downturn in annuity rates.  They’ve been on the up for some years so it wouldn’t be a surprise if they dropped now – nothing goes up forever.  The real question for me is will they ever come back up again? Life expectancy is rising and annuities pay out until you die – how can it last?

Many people that I have spoken to about their impending retirement have indicated that annuities are very unattractive to them anyway.  Perhaps it’s time to pay more attention to the alternatives.

Kaupthing edge

UPDATE 2 – Iceland suspends trading in financial company shares

UPDATE – In the last few days I have moved my personal cash out of Icelandic banks.  That’s not a recommendation for you, just what I’m doing.  The article below was written about a week ago and this one ‘How to get 100% protection on savings’ was written yesterday.

Lots of people have been asking me recently if it is safe to save with Kaupthing Edge so I thought I’d do a quick post on that single topic.  First, I have no doubt that the reason you are all asking the question is because the interest rates paid by Kaupthing are excellent (at least at the time of writing) and you actively want to save with them – otherwise I would say just put your money in National Savings and Northern Rock (see my previous post Are your savings safe? to see why).

The most important thing to remember is that Kaupthing Edge are fully covered by the UK’s Financial Services Compensation Scheme. Under this, all your savings are guaranteed up to £35,000. However, if you put your account in joint names (assuming your partner won’t run off with your cash) then you are jointly covered for £70,000.  You’re not getting extra protection, just each person’s protection added together.  Also, remember that the compensation scheme is per institution, not per account.

So the fact is that you are covered up to £35,000 by the compensation scheme but what if lot’s of banks go bust – is there enough money in the scheme to protect everybody?  No, there isn’t enough right now but the government has pledged to loan the money to the scheme in order to meet any protection requirement.

So with all this protection in place you may wonder why the fuss?  The original worry over Kaupthing came about partly because earlier this year the credit rating agency Moody’s described the Icelandic banking system as ‘fragile’.  The problem is that Iceland’s banks were hit hard as the credit crunch arrived. Being based in a nation of just 300,000 people with a pretty small economy has led them to rely largely on the troubled money markets rather than customer deposits.  Kaupthing and Landsbanki both opened Internet banks to attract customer deposits and reduce their dependence on capital markets.  The price an institution needs to pay for money on the market is a pretty good way to guage how the city insiders view the risk it represents – there’s a really good article on it at Moneyweek.

IceSave, part of Icelandic bank Landsbanki, operates under the passport system to the Financial Services Compensation Scheme, where they run the equivalent of a UK branch from their home country.  This gives them European Economic Area authority rather than FSCS authority.  If the bank went bust you would have to make a claim to the Icelandic compensation scheme rather than the UK one.  Iceland pays a maximum compensation of around £16,300 (depending on exchange rate with the Euro) then any sum over this up to your £35,000 maximum would have to be claimed through the UK system. In other words, you’re still covered but it’s more complicated.  Oh, and the system’s never been tested.

The long and the short of it is that you will have to decide whether the additional interest earned at Kaupthing Edge is worth the risk.  Personally, I prefer safety.  If you want complete safety just go for National Savings or Northern rock.