I attended cashflow game meeting early this week and there was discussion about bank CD. Some people were claiming that bank CD is much more safer than other assets (In this meeting, we were discussing about gold and silver). Their justification was that those deposits are insured by FDIC (Federal Deposit Insurance Corporation).
In my opinion, saving in the saving account or CD in the bank is the most riskiest things we can do right now because banks themselves are in very risky position. In this blog, I will share my thoughts about the reasons why putting money in the bank is the most riskiest thing you can do right now.
First, bank has so much derivatives of European sovereign debt also known as credit default swap (CDS). CDS is basically a insurance. Like car insurance, insured pays premium to the insurance company. In return, insurance company will insure the owner's car and they will pay insured during car accident. Banks (Mainly US financial instituions) offers insurance to the European governments in the case of their default. In returns, insured nations will pay the preimum to the US financial institutions just like above car example. Problem now is that PIIGS (Portugal, Italy, Ireland, Greece and Spain) are all in financially big trouble. Once bigger European nation started to default (Look at Portugal, interest rate is currently 14% and it is no way for them to ever pay the money back without defaulting on their own debt), these will trigger the CDS to explode. In other words, US financial instituions need to pay the gigantic amount of money to these failing nations. Derivative market is estimated to be $1.5 quadrillion market and this will lead to biggest financial collapse in the United States. If you totally understand what is really going on, it makes total sense the recent news about Fed stepping up to bail out eurozone in the US taxpayers' money and Treasury Secretary Timothy Geithner and President Obama always saying we need to help Europe. They are doing this not because they want to help people of Europe but because they are helping US banking system. If they don't do this, all of the US major banks will go bankrupt.
Secondly, US government has temporaily suspended the accounting rule called FASB 157 (Financial Accounting Standard Board). FASB 157 is also known as mark to market rule. This basically says that all the corporations must adjust their asset value based on the market value in every quarter so that financial statement reflects their most updated and true financial condition. So, corporation with many bad assets has to realize the loss and if liability exceeds value of asset, then it has to go bankrupt. However, not for the "Too Big To Fail" banks. Government allowed big banks, such as Bank of America, Citibanks, and JP Morgan to keep their original market value of the properties unless they foreclose their properties. Reason is pretty simple. They have so much bad loans that they will go bankrupt unless government suspend the mark to market rule. Market value of the houses they own is much much lower than the loan amount. I would not call this rule mark to market. This is more like mark to fantacy rule...
Adding the fuel to this, over 2 million houses are currently not in the market. This called shadow inventory. Why they hide all the inventories? Reason is also very simple. Ask yourself what happens if these housing inventories appear in the market at the same time, while there are abosolutely no buyers? Housing price will tank just like supply totally exceeds the demand. This will surely wipe out all the banks. This is also the reasons why real estate price will continue to decline and stay down for a long long time like Japan's lost decade (2 decade now...).
Finally, FDIC is basically bankrupt. It does not have any money inside. According to the trusted sources, FDIC's assets are only $3 billion but it has currently insured trillion of dollars of the bank depositors money. In any people's eyes, how the agency with only $3 billion in assets can insure trillion dollars of depositor's money? It is just absolutely bogus.
To me, all the banking systems are toast. Only outcome I can think of is that there will be another Lehman moment (with steroids) due to Eurozone debt collapse and Fed will run its printing press unlike anything you have ever seen before in the effort to keep all the banking system afloat with those reasons above. Currently, its inflation rate is already exceeded 10% but I expect even higher number in this coming years. Honestly, I expect 20, 30 even 40% inflation will hit us in very near future. If this happens to those people in the meeting, can they still claim "1% CD from bank is definitely safer than other investments" with straight face? If people understand true state of current banking system, it is impossible to draw the conclusion of putting the money in the bank is safe.
On the other hands, other people in the meeting said any investments can be risky if you don't know what you are doing. I totally agree. Real estate investment with ROI of 100%+ ,for example, does not have to be a risky investment. In fact, I am investing in short term hard money loan and I will get the money back soon. I will receive annual rate of 14% per year from this as compared to 1% CD in the bank. 14% return is quite low among my investment choices but at least I can use this vehicle as parking the money in much better rate than the conventional CD or saving account that pays almost nothing (I put the money simply because this is 1 year hard money loan. If not, I would not park the money there). My point is that education will reduce the risk. You can even virtually eliminate all the risk if you financially educated. On the other hands, even 1% bank CD can be very risky if you don't know what you are doing. Education is the critical component of financial success in this economic condition.
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Published: 10 December 2011