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Bail-in

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Three decades of easy money through circumventing the free market by the central banks, culminated by the orgiastic money-for-nohtin’, and the shut-ins ushered in 2020-21 (by innumerate politicians abdicating their responsibilities to the likes of the good-ol’ doctor Fauci) is and will be paying huge negative-dividends for a good while to come. The latest spill at the SVB bank, is not going to be the last as we will hear of more bank failures due to a crisis of confidence, itself a cornerstone of our fiat currency system. In a novel twist on poor decision making, the SVB failed for being “too conservative”. In short, the bank’s assets took a large paper-hit due to fast increase of interest rates by the Federal reserve.

Quick run-down: in 2021 VCs kept throwing money at SVB’s customers (startups with world-changing ideas), and they kept depositing it at SVB. These customers didn’t need loans because trucks full of cash were backing up into their offices before the ink was dry on the term sheet. 

When you have all this customer cash, you need to do something with it. Instead of making loans to risky borrowers, SVB bought ultra-safe (but fixed-rate) long-term bonds backed by the US government. SVB took less credit risk in exchange for taking an unusual amount of “duration risk”; the risk of being stuck with something long-term while better options come along, as they tend to do in the long-term.

Remember this was in 2021.

Mere months later, better options came along fast and furious as interest rates were raised by unilateral action of the Fed, making the bank’s bonds worth less and less. On paper the assets took a hit as people large and small took notice, and wanted out. As depositors took out their cash the paper-losses became real. Their bonds’ piddly 1%/yr returns had to compete with the new bonds at much higher rates, hence forcing big discounts as they had to be liquidated prematurely.

But no-one outdid the bank’s clever CEO who sold $4M worth of stock on Feb-28th. The very next day, Moody’s called the CEO and informed him that they are down-grading the bank’s rating. A week later (on March-8th) Moody’s lowered the bank’s rating, and the bank’s shares crashed after the close the next day. As mentioned, look for this scenario to repeat especially among smaller regional banks.

So what the heck is a Bail-in.

It’s the new policy of the G20 governments in response to the 2008 bank failures; the result of nearly two decades of easy-(fiat)-money circumventing free-market action by central-bankers tethered to their myopic politician handlers. Since the end of 2014, new G20 bank Bail-In Laws were put into place. Bank depositors are now legally treated as unsecured creditors in the largest economies in the world.

Heeding the public’s displeasure over the use of their tax dollars in such a way, Congress passed the Dodd-Frank Wall Street Reform and Consumer Act in January 2010, which eliminated the option of bank bailouts but opened the door for bank bail-ins. Curiously, nearly all other aspects of Dodd-Frank law has since been dismantled, except for keeping the depositor on the hook in case of their bank’s failure.

Just like bailouts, bail-ins take place when a bank is failing. But banks use their own capital when governments don’t bail them out. Giving banks the power to use the depositors’ cash takes the onus off the taxpayers. As such, banks are responsible to their shareholders, debt-holders, and depositors.

Banks use the money from their unsecured creditors, including depositors and bondholders, to restructure their capital to stay afloat. Failing banks can only use deposits in excess of the $250,000 protection provided by the Federal Deposit Insurance Corporation (FDIC).

Bottom-line: Bail-ins provide immediate relief, true, but they also amplify the crises of confidence.

How to protect yourself

Notwithstanding the federal government flipping from the bail-in policy (within hours) for the SVB depositors, now more than ever, if you give your fiat currency to a bank. It is now your responsibility to know the solvency of the bank you chose. Including understanding any possible spillover effects (!), it may suffer under in another potential global financial crisis ahead.

Besides high-risk borrowers (a la 2008), does your bank have any derivative bets on its books? Perhaps too many fixed but low rate bonds? You may want to find all that out.

Take-aways:

  1. Spread your risk by diversifying your money and assets across different banks and countries Keep balances at or below the $250,000 limit. Two accounts in the same bank does not count, but accounts in different names do. For example, a couple can spread its funds over two individual and a joint account in the same bank.
  2. Make sure you monitor any changes to federal government policies about bank deposits.
  3. Don’t bank with any institution that has large derivative and mortgage books, which can be risky in times of crisis.
  4. Keep a stash of cash, and in worst case scenarios physical silver or gold available.
  5. Consider keeping balances above $250k in reputable brokerage accounts. nearly all have insurance coverage for cash balances in the many millions. Check the coverage.

(some parts of the above opinion were lifted from Investopedia: https://www.investopedia.com/articles/markets-economy/090716/why-bank-bailins-will-be-new-bailouts.asp). Investopedia is an excellent educational resource; please support it. Additional descriptions were taken from Toggle.ai’s daily commentary.