Tuesday, March 19, 2013

Bad Loans.

Up until this weekend I had the mistaken notion that money you deposit into a bank, remained your money. I believed that it was there for safe keeping and for such storage, the bank would extract a small percentage of the interest that this money should earn under current inflationary growth.

I was wrong. Once this money is deposited in the bank, this is no longer your money. This is a loan you made to the bank. In return, the bank promised to pay you a very very small interest on your loan. There was also a federal guarantee that, up to a certain amount, that money would return to you even in the case of this bank bankrupting.

That notion of a federal guarantee was destroyed this weekend. So all you have to rely on, is the belief that this bank will honor your particular loan. The truth is that the bank will honor this loan contract as long as it remains in the bank's interest to honor this contract, or more precisely as long as it is in the interest of the men and women running this bank. They are not a moral bunch.

The next equation to calculate, would be are they a sane bunch? Is this bank in financial trouble? Does it use a sound business model? Are its directors people of sound mind? In other words, is this a good loan or a bad loan?

The US justice department believes that the credit rating agencies should share some of the risk for such bad loans. They likely believe that in the end, these financial institutions will forfeit on their loans.

You better take another look at the soundness of business practices of the people you lend your money to.

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