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Posted by: David Henry on February 18
Perversely, alleged conman R. Allen Stanford did more in the past 10 days to boost confidence and stability in the banking system than U.S. Treasury Secretary Timothy Geithner.
On Tuesday Stanford became a one-man reason for people to buy certificates of deposit only from banks insured by the Federal Deposit Insurance Corp. Stanford, a Texan operating from the tropical island paradise of Antigua, was sued by the Securities and Exchange Commission for making up stories and statistics to sell $8 billion of what the commission said were “self-styled” CDs that fraudulently promised higher returns than “true certificates of deposit offered by traditional banks.”
Stanford deployed an army of salespeople with his CD pitch to convince as many as 50,000 wealthy investors in the U.S., Caribbean and Latin America to send him their money. He apparently spent a lot of their cash to buy illiquid stakes in real estate, pay sales commissions for his brokers and acquire the luxurious accouterments that a flashy promoter needs to host cricket matches, politicians and money managers in the Caribbean.
It will take years to see how much the authorities, who seized Stanford offices in the U.S., will recover from the international operation. It might even take months to bring Stanford before a judge.
But the immediate consequence of the raid is that millions of people are learning not to trust anyone with their money. It is a natural reaction since Stanford’s fall came so quickly after the collapse of Bernie Madoff’s alleged pyramid scheme and the devastating losses of wealth in houses and stocks.
Now more people are buying gold and jewelry to store what wealth they have left. Gold was above $969 again after climbing to its highest levels since July. Other people will favor cash, but look for more practical alternatives than mattresses. They’ll likely turn to banks, specifically banks insured by the FDIC for up to $250,000 per depositor per bank, banks that offer what the SEC called “true certificates of deposit.”
This will be good for the legitimate banking system. For banks, insured certificates of deposit are one of the more stable sources of financing they can get. Depositors are less likely to run to take their money back than are institutions that lend to banks through the capital markets. That’s why banks build branches to attract deposits. And, that’s why the government raised FDIC insurance coverage of bank deposits to $250,000 from $100,000 on Oct. 3 after the near meltdown of the financial system. The additional insurance essentially encourages people to lend to banks so that the banks can lend to others and support the economy.
When BusinessWeek revealed the SEC investigation and doubts about Stanford on Feb. 11, Treasury secretary Geithner was being criticized throughout Wall Street for his public presentations the day before. He had offered up an incomplete plan to restore confidence in banks. Now he can thank Allen Stanford for reminding people why they should put cash in banks.
BusinessWeek's Adrienne Carter, Jessica Silver-Greenberg, and David Henry deconstruct the mysteries of high finance, Wall Street, and hedge funds for pros and ordinary investors. E-mail them directly if you've got tips about big deals, a hedge fund, or even securities industry gossip.