Banks are institutions where miracles happen regularly. We rarely entrust each of our money to anyone however ourselves – and our banks. Despite a very chequered historical past of mismanagement, corruption, false promises and representations, delusions and behavioural inconsistency – banks still succeed to motivate us to provide them our money. Partly it is the feeling that there are safety in numbers. The fashionable term today is “moral hazard”. The implicit guarantees of the state and of other loan companies moves us to take risks which we would, otherwise, have avoided. Partly it is the sophistication from the banks in marketing and promoting themselves and their products. Glossy brochures, professional computer and video clip presentations and vast, shrine-like, real estate complexes all serve to improve the image of the banks because the temples of the brand new religion of money.
But what is behind all this? How can we judge the soundness of our banks? In other words, how can we notify if our money is safely saved in a safe safe place?
The reflex is to attend the bank’s balance sheets. Banks and balance sheets happen to be both invented in their modern form inside the 15th century. A balance sheet, coupled with other financial statements is supposed to provide us with a true and full picture of the healthiness of the bank, its past and it’s long-term prospects. The surprising thing is that – despite common opinion – it can. The less surprising element is it is rather useless unless you learn how to read it.
Financial Statements (Income – aka Profit as well as Loss – Statement, Cash Flow Statement and Balance Sheet) are available in many forms. Sometimes they conform to be able to Western accounting standards (your Generally Accepted Accounting Concepts, GAAP, or the less rigorous and more fuzzily worded International Accounting Standards, IAS). Otherwise, they conform to nearby accounting standards, which often leave a lot to be desired. Still, you should look with regard to banks, which make their updated financial reports open to you. The best choice would have been a bank that is audited by one of the Big Six Western human resources firms and makes their audit reports publicly offered. Such audited financial claims should consolidate the financial link between the bank with the financial results of its subsidiaries or linked companies. A lot often conceals in those corners regarding corporate ownership.
Banks are rated simply by independent agencies. The most famous and quite a few reliable of the lot is Fitch-IBCA. Another one is Thomson BankWatch-BREE. These agencies assign page and number combinations for the banks, that reflect their stableness. Most agencies differentiate the short term from the future prospects of the financial institution rated. Some of them also study (and price) issues, such as the legality in the operations of the financial institution (legal rating). Ostensibly, all a concerned person has to do, therefore, is to step around the bank manager, muster courage and ask for the bank’s rating. Unfortunately, life is more complex than rating agencies want us to believe. They base themselves mostly around the financial results of the bank rated, as a reliable gauge of its financial strength or financial profile. Nothing is further from the truth.
Admittedly, the financial results do include a few important facts. But one has to look beyond the naked figures to obtain the real – often a lesser amount of encouraging – picture.
Consider the thorny issue of exchange rates. Financial statements are calculated (sometimes stated in USD in addition to the local currency) while using exchange rate prevailing around the 31st of December in the fiscal year (to that your statements refer). In a country using a volatile domestic currency this might tend to completely distort the actual picture. This is especially true if your big chunk of the activity preceded this arbitrary day. The same applies in order to financial statements, which were not inflation-adjusted within high inflation countries. The statements will look inflated and even reflect profits where weighty losses were incurred. “Average amounts” accounting (which makes use of average exchange rates throughout the year) is even a lot more misleading. The only way to really reflect reality is when the bank were to maintain two sets of company accounts: one in the local currency then one in USD (or in most other currency of research). Otherwise, fictitious growth in the actual asset base (as a result of inflation or currency imbalances) could result.