Test your knowledge:
Fact or Fiction: The larger the bank, the more stable it is.
Fiction
The size of a bank is not the only factor that plays in its stability. The larger the bank, the larger its manageable and non manageable assets. However, the way it is capitalized and invested determines its safety rating. The more a bank holds its eggs in one basket, the more likely it is to fall in hard times. The more diversified it is, the better its chances to survive. Let’s look at what diversification means in basic English terms.
If you are a bank and you have $100 million to invest, then you have choices that are available to you.
-Real estate
-Stock market
-Mutual funds
-Bonds
-Securities
-Retail network
-Loan acquisition
-Lending capital
Lets assume those are all your choices, then you can choose to invest a portion of your money in each, some banks choose to invest more in some than others and tend to put sometimes more than they want into one basket like lets say securities so they minimize their exposure to everything else in the hopes of making extra money on that one item.
That is a profitable strategy but can become dangerous if a certain investment doesn’t do well or loses value (hint: real estate).
In other words, the more stable banks are the ones that are more prudent, budget and balance their portfolios well and are capitalized evenly in the market.
So don’t be fooled by large names and numbers, start reading annual reports that banks put out and understand what the strategy of the bank that is investing your money really is. Then determine if you want to lend them your hard earned dollars.
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