Offshore banking - The deposit dilemma

Where is my money safe now? Guy Stephenson, Director of Nacelle, a specialist media and marketing consultancy serving the offshore banking industry, considers the options.

Just when you thought the $700bn US bank bailout plan might signal the beginning of the end of the banking crisis that has swept the US, UK and Far East, along comes the European banking crisis to pour fuel on the flames of uncertainty. These are difficult times for expatriates looking for a safe place for their savings. Solid names such as the huge HBOS Group seem to have collapsed without warning and with the demise of Bradford and Bingley, which has followed Northern Rock, at least in part into the arms of government, none of the building societies which converted into banks remain as independent entities.

Of equal concern for savers is the sudden fall from grace of the new wave of Icelandic banks such as Kaupthing and Landsbanki, names which have dominated the best buy tables over the past 12 months, but banks whose futures now look decidedly uncertain.

UK regulated financial advisors serving the expatriate and offshore savings market are now urging savers to spread their risk and also to look carefully at how banks and their subsidiaries are structured. At present, the first £50k of any deposit per qualifying institution is guaranteed by the UK government’s Financial Services Compensation Scheme for onshore savings accounts. However, savers need to look beyond this to see whether subsidiary groups have separate membership of the onshore savings scheme. Depositors with funds in Nat West and Royal Bank of Scotland onshore would qualify for two separate rounds of compensation, but there are many other examples where the holding company just has one licence, irrespective of the number of bank brands it owns.

Offshore obligations

These onshore UK rules do not apply offshore to banks and subsidiaries of building societies. The Isle of Man has a deposit protection scheme, which will shortly be amended to raise deposit protection to £50k per bank account in line with the major onshore banks. Savers are currently offered undertakings and guarantees issued by the parent organisations. On Jersey and Guernsey, no centralised deposit guarantee system exists at present.

Tim Harvey, managing director of specialist expatriate advisers Offshoreonline.org, comments, “For many years now, the subsidiary companies operating in the Channel Islands in particular have benefited from either a formal guarantee issued by the parent or more recently an undertaking issued by the parent to stand behind the liabilities of their subsidiary. This is bank code which means the owners of the subsidiaries fully expect to stand behind their Channel Islands operations, insofar as they are allowed to say so without falling foul of UK onshore rules.”

So how can savers judge which organisations are safe and which are not? It is certainly true that few financial organisations seem to have been immune from the recent turmoil which has engulfed the world’s credit markets, but not all organisations have been affected in a similar manner. Some, in fact, have done very well out of other organisations’ difficulties.

Subprime exposure

At the root of the problem is the so-called subprime mortgage crisis. Subprime is a lending term used to describe mortgage customers who pose a greater risk in lending terms to banks, perhaps by having no deposit or irregular income patterns. Many of the banks and financial companies who have experienced difficulties have had a significant exposure to the subprime sector or they have derived most of their mortgage lending from housing markets which are now experiencing difficulties, such as the US and UK markets.

Generally speaking banks that have done better in the current financial climate are those with minimal or small amounts of exposure to subprime lending. An example of this would be Banco Santander which owns Abbey in the UK and through this, Abbey International in Jersey. The bank has emerged from the past few months of turmoil with a far larger balance sheet and will shortly own in full the old Alliance and Leicester group, including Girobank and the branches and deposit business of Bradford and Bingley, which used to be a FTSE100 company and a major bank in its own right. Both organisations have been picked up at a fraction of their value a year or so ago and should enhance the strength of the Group considerably. So how has Banco Santander managed to remain strong while others have wilted?

Santander Group has a global business footprint and is active in many markets not affected by the UK or US housing problems. Abbey in the UK has no direct subprime lending exposure and Banco Santander has an AA+ credit rating partly as a result. Moreover, Abbey has a large retail deposit base, 60% of funding is deposit based and less than 10% is raised through short term money markets, precisely the same markets which have recently seized up as banks have stopped lending to each other. As a result, Abbey is not as dependant on wholesale or money market funding as other UK banking peers.

Society subsidiaries

This business model and geographical diversification has helped to give the Santander Group, and through them Abbey and Abbey International, the financial strength to ride out these tough times with confidence.
Amongst the building society subsidiaries, the position is different again. Take the example of Guernsey, where several society subsidiaries are based. The regulation of building societies is quite different from that of banks. Whilst local operating companies will be responsible to the local Guernsey regulator, in the UK the parent is also overseen by the Building Societies Association (BSA), which has a long and good track record of looking after savers’ interests. In the unlikely event that a parent Society gets into trouble, the BSA will move quickly to find a merger partner and because there are no shareholders to lobby and consult, this is usually a swift and efficient process. The recent experience of Derbyshire Building Society is a good example. The Society was recently forced to merge with the larger Nationwide in the UK with very little disturbance to ordinary savers or borrowers’ lives.

Offshore building society subsidiaries offer another level of comfort to their customers in that they tend to be relatively simple operations, with little or no lending activity and usually no exposure to complex investment products. Any lending undertaken is small scale compared to international banks, which means the underwriters more or less know in detail every case they take on. This simpler model is far easier for regulators to understand and ultimately for management to run, so the day to day running issues are minimised. Typical of such organisations is Skipton Guernsey in the Channel Islands.

Spreading risk

For savers with substantial amounts on deposit, what then is the advice?  Certainly spreading risk and avoiding relatively unknown foreign owned banks and their subsidiaries is one option. The experience of Landsbanki suggests that at best, savers are likely to experience delays accessing their funds if there are problems, so chasing the best interest rate is also unlikely to be a one way bet. Keeping a close eye on all accounts and if possible holding all the paperwork together is another idea. Financial advisers will tell you that half the battle is staying on top of your administration, so you know what investments you have where. Tim Harvey concludes, “We have seen an upswing in interest in collective redemption bonds, particularly amongst UK and European clients where there can be tax advantages to holding funds in these wrappers. Clients simply place their deposits in a range of blue chip banks and building societies such as Abbey International or Nationwide in the bond. The funds are easy to follow and all the paperwork is in one place, but each deposit benefits from its own share of any protection scheme, should it be needed.”

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