So here’s a quick checklist you can follow when looking at a potential private bank (works for a retail bank too).
1. Where is the bank based?
This is the easy one, well at first glance it is, if the bank is in Cyprus, perhaps you don’t want to open an account there just to be on the safe side. But bank jurisdiction is a little bit more complex than most people think. As I will now explain:
A lot has been written about the size of the financial industry in the underlying country vs. the size of its GDP. The argument goes that the bigger the banking sector in relation to GDP the bigger the risk. As if that was a reliable indicator. This is a myth. The primary question never is and never will be size, because like in other more fun activities of the frisky variety, size really doesn’t matter. It’s what you do with it that counts.
If the banking sector, in the country in question, is involved primarily in lending money by taking on collateral of an illiquid nature (i.e houses). They are carrying a lot of risk. Stay away.
If they are heavily involved in cross border lending (i.e Cyprus) then the risk is manifold. Stay away.
I would prefer to have my money in a jurisdiction that has experience in banking and has already survived several crises.
Then we come to another very important distinction. Just because a bank is based in an enticing location that doesn’t make it a bank. Yes you can and should read the previous sentence again.
Big global banks have banks and branches in several different countries. Make sure which one it is, a branch or an actual bank. Ask. If you don’t get a clear answer then don’t bank with them. Because one thing is for sure, the banker vying for your business will know exactly the legal standing of the bank he works for. If he doesn't he is a nincompoop of the first order and should be stripped of his Rolex and pin-stripe suit.
For example if the “bank” has a physical presence in one country it might be just a branch office and your actual money might be booked and deposited in a completely different country. However if it is a registered and licensed bank in the country then you know that it falls under the laws and protection of that country.
Does that make sense? You know it does.
2. Big bank or small bank?
Too big to fail. Go with the big bank is what most will say. STOP!!! HOLD THE PRESSES. This is not the way it goes. My short and sharp answer is go with an independent smaller player who fills all the other criteria in this checklist.
Big global banks are intertwined by an umbilical cord to each and every bank within the same group (normally under the same brand name). Worse, they are intertwined in a global way and with such complexity that you have absolutely no way as a client of verifying the risks. (As I will explain in a moment)
Do you disagree with me? I have one name for you: Barings Bank. I have another name for you Lehman Brothers.
Are we done? Good. Next.
3. What do the key ratios say?
Capital adequacy ratio. That’s what you are looking at. I will save you from the technical side. If you want to know how it’s calculated then look here for a short explanation and here for a longer one.
The shortest explanation is mine and it is this: Capital adequacy ratio (CAR) is an indication of the bank’s ability to survive when its problems hit the front page of the WSJ.
All you need to know is that the legal minimum (depending on jurisdiction) tends to be a tad under 10%. You want a bank that is well in double figures preferably double figures starting with the number 2. Shoot for +20%.
The other thing is profit. You want your bank to make money off of you. You need to be with a bank that makes money. If you disagree with me, I can give you a list of Spanish and Italian banks you might want to bank with.
A profitable business is a healthy business and the same goes for banks. Always go with a profitable bank. Profitable over the long term.
4. What do they try to sell you?
This is an important one. In a private bank you will normally have an initial meeting with a private banker. Listen very carefully to what the banker tries to sell you and in what order. If after a bit of small talk and some tea and crumpets the banker starts offering you leveraged investments or structured products. Thank them for the tea and say you’ll call them back and then block their calls and their email.
Unless you yourself are looking for a leveraged strategy and are experienced in leveraged investments, this is not something that should be pushed at you in a first meeting. A responsible private banker will want to get to know you as an investor first before offering you strategies involving any type of leveraged investments.
As for structured products. Many banks use structured products to boost their earnings per client. I am in no way saying structured products are bad. But when they become the norm, rather than instruments tailored to a specific investment case, then the client is being taken for a ride. In this case you are the one being taken for a ride.
No leverage strategies or structured products to start off with.
5. Do you trust the banker?
What is your initial feel regarding the banker. Do you like him? Remember the banker will be your point of contact within the bank. The idea is that you will be doing business and trusting some of your most sensitive financial secrets with this person. You need to like them and you need to trust them.
There's an over supply of pomposity and big egos in private banking but this should be about you, the potential client, so the banker should be interested in you first and his own brilliance second. Let me repeat YOU first banker's brilliance second.
So in the initial meeting the banker should show interest in you personally and your background by conversing in an easy and informal manner about you. The banker should be asking pertinent questions and showing a natural interest in... you guessed it: YOU!
If he goes on about how smart he is and how much money he is going to make you then it's time to give the banker in question the elbow.
Remember: You first. Banker's brilliance second.
6. What is the bank's treasury department up to?
Here’s the umbilical cord I mentioned earlier. I’m saving the best till last (well nearly last). This is not much discussed, but there’s a reason for that, because this is where the risk is hidden. The treasury department in a bank (and each one has one) is where they take care of the banks currency exposure and lend your money out to other banks and borrow from other banks. Sometimes they refer to this as the currency desk.
This is what scares me about big global banks. Let’s say a big global bank has a private bank in Luxembourg. They’ll wax poetic to you about the fact that their Luxembourg bank is safe as houses, because due to banking secrecy laws it cannot exchange information with other banks within the group, which makes it truly independent and completely separate from the mother ship yaada-yaada-yaada. This is true to a point. But there’s a “but” and that “but” it’s their treasury department. You can bet your bottom dollar that the private bank in Luxembourg will be doing 80% of its business with other branches and banks within it’s own group. Therefore it is carrying counterparty risk and that risk remains within the same bank on a global scale.
If one of the banks within the group in any other country gets into trouble, there’s a very real risk that it will have a knock on effect on the bank that promised that it is completely “independent”.
So ask about the treasury department’s size. If they have more than a handful of people on the treasury desk to lets say 500 employees total, then perhaps they are playing a bit too fast and loose with your money.
Also ask what their treasury department does. If the bank is part of a global bank then ask how much of its business is conducted on a group level. If the banker looks at you with a surprised face, that means he has no clue (80% of the time) and you should walk away.
Remember the treasury department does not serve you one iota. It serves the bank. Your money is being used by them to make more money for the bank. Therefore you want a lean team that is transaction heavy, which basically means they are busy executing your trades instead of lending your deposits to some Cypriot bank.
Oh and one more word of warning. Remember the Libor scandal? Yep, that mess was orchestrated by a treasury department.
7. What services do they offer?
You might have expected this as one of the first things on the list, but it comes in last. All of the above have to be settled first. The main thing is to keep your money as secure as possible. Wealth preservation above all else when it comes to private banking.
Service wise your private bank should have what some bureaucrat of a consultant once named “open architecture” and then patted himself on the back for being so creative. Open architecture means that your banks gives you access to multiple markets and investment funds, even the funds of its competitors. So if the banker doesn’t mention open architecture in his own spiel to you then ask. If you get a funny look. Walk away.
Your private bank at minimum should give you access to the following:
- Government bonds
- Corporate bonds
- Emerging market bonds
- Foreign exchange in all major currencies
- Investment funds (banks own and others)
- Equities in major markets
So there you have it. This list should help you find a reliable private bank.
I’d love to read your suggestions. What do you think should be added to the list?