Bank Run Dept.

Is it time to read the fine print on that SIPC policy?

On August 20, the Federal Reserve tripled the amount Citibank, Bank of America and JPMorgan are permitted to lend to their brokerage subsidiaries, to a whopping 30% of bank assets. This is an unprecedented waiver of regulatory oversight, and calls the brokers’ liquidity into question.

Brokerage insolvency risk first emerged, quietly, with the Brookstreet Advisors insolvency in June. Brookstreet was buying (and advising its clients to buy) securities on margin, backed by mortgage-backed securities. When the subprime crisis hit, ensuing margin calls wiped out the firm and many of its clients.

Brookstreet’s failure, by itself, was just bad advice, not a systemic problem. The real concern was barely mentioned in the press: Brookstreet’s margin lender was a unit of Fidelity Investments. Fidelity, and presumably many other broker-dealers, have lent undisclosed sums of money against illiquid securities of dubious quality. They may repossess those securities in a margin call, but they cannot liquidate them at anything near face value.

It thus appears unlikely, but not impossible, that a major broker might fail.

Yes, investors’ assets are covered by the SIPC up to $500k, but they don’t say WHEN you get your money back. Individuals may not want to have all their eggs in one basket. Some alternatives that don’t require selling stocks:

  • Move your “emergency” cash to interest-bearing checking (INGDirect pays 5% and claims no subprime exposure).
  • Take physical delivery of stock certificates for long-term holdings, and put them in a safe deposit box.
  • Move mutual fund shares to be administered by the mutual fund itself, not your broker.

This brings peace of mind with relatively little effort, and no taxes or trading costs.

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