GETTING THE BANKS TO 'FLOAT' YOUR BOAT
by Mark Scheinbaum
American Reporter Correspondent
Boca Raton, Fla..
BOCA RATON --Can the individual investor buy the same U.S. government agency bonds purchased by his or her bank, insurance company, mutual fund, or trust company?
Well, let's just say it depends. It depends upon your sophistication and net worth, and the flexibility and expertise of your broker.
A couple of years ago a client asked me how the banks make big money when short-, mediumand even long-term certificates of deposit were paying customers less than 4 percent? Customers were staying away in droves, right?
First of all, customers spooked by the dot-com bust on Wall Street and seeing money-market accounts at 1 percent kept buying CDs paying 2 or 3 percent interest in an insured account; secondly, the banks received the "float" or kept the profit on money they collected from customers.
Thinking about an explanation for this phenomenon, I came up with a golf analogy. At a time when I actually thought taking golf lessons would make me competitive in the sport, a PGA teaching pro picked up my seven iron and launched it 165 yards to within three feet of the pin. This was the same club that in my amateurish hands could yield a "perfect" shot perhaps once in 20 times to a distance of only 139 yards.
In the hands of a professional, magic can happen.
In the hands of the banker who is purchasing $50 million in U.S. government agency bonds instead of $50,000 worth, who knows all the strategies and nuisances of the market, and most importantly, knows "where to shop," the bank has a golden edge.
Often (but not always) financial institutions (i.e., the big guys) can use various configurations or "derivatives" of Fannie Mae, Freddie Mac, or Ginnie Mae CMOs (collateralized mortgage obligations) to net a "total return" of perhaps 8, 10, or 12 percent per year.
Take a case where XYZ Bank & Trust paid you 4 percent interest for five years, and took your money, pooled it with other money, and bought a government agency bond with an "implied" AAA rating. Let's say the bond brought 9 percent back to the bank over the same period. The bank just picked up the 5 percent difference for themselves.
In recent years, regulators have allowed individual investors to purchase these same bonds for retirement accounts or personal accounts. Sometimes the accounting becomes complex, but there are a number of brokerage firms who will create portfolios of these bonds, or include them as an "asset class" for investors with a liquid net worth of more than $1 million.
We've learned over the years that some firms, unfortunately, will, only sell these bonds to their biggest institutional clients (which, frankly, allowed our firm to find a nice market niche), yet over the years more and more clients have availed themselves of these bonds.
Keep in mind that some of these bonds took advantage of the "interest-only" mortgage market in recent years; others react "inversely" to market conditions so you could actually own a bond which increases in value as interest rates rise.
Sophisticated instruments and strategies are not for everyone, and competent professionals should be consulted before investment decisions are made.
Iin many cases, though, investors can indeed keep some of that "float" for themselves, and purchase the same types of bonds purchased by their banks - with their money.
AR Correspondent Mark Scheinbaum writes on financial and other topics.
Heis an economist and former UPI staff reporter.