How safe are your savings?
Updated on 03 March 2008
The FSA says UK savers must look beyond high interest rates as foreign banks enter the market with eye-catching but riskier rates.
The FSA has told Channel 4 News that consumers should consider other factors, including protection for their deposits in the extremely unlikely event that a bank gets into trouble.
Foreign banks are chasing British cash, including two Icelandic institutions.
Although they're profitable, how should British people who are investing £6bn in more than 170,000 Icelandic accounts, decide where to put their money?
Iceland is booming and is now the most developed country in the world, says the United Nations.
An economy more famous for the cod wars, is now the epicentre of a dramatic takeover and banking boom.
British brands like House of Fraser and West Ham United, are now owned here. And at the very moment we are all encouraged to save more, Icelandic banks and other foreign bank have shaken up our staid savings market.
In the past year this tiny country of 300,000 people is one of the nations that has managed to snaffle £6bn of British internet savings in just 18 months. But just how stable is Iceland's financial system?
Under the brand name Icesave, Iceland's biggest bank Landsbanki has led the way winning 170,000 British savers and is growing by 1,000 depositors a day. Kaupthing's Edge account was launched just a month ago.
Both banks have won over savers by offering the highest savings rates. Both point to their high profits and sound credit rating as evidence of their financial strength.
But some in the City have concerns. Savings in the UK are driven by the so-called best buy tables in newspaper personal finance pages and on the internet.
Top of the charts have been foreign banks from Turkey, Nigeria and Iceland, attracting business by offering the highest rate. Now Britain's financial regulator says that customers of all banks must look deeper.
But the FSA is not making its remarks about Icelandic banks per se but about all foreign banks.
Jonathan Chapman, head of Financial Capability at the FSA said: "Certainly it's the eye catching element, certainly in advertising and in the comparison tables, the best buy tables that are out there, both in newspapers and over the internet. It's the element that catches the eye. Again, we all have a responsibility in the media and in financial services more generally to get the message across to consumers that they need to look beyond that headline rate. So it's an important factor but there are other elements in making good solid investment decisions."
What about another league table used by city traders to rank the risks for banks raising cash from money markets, rather than savers?
These are complex trades called Credit Default Swaps or CDS. They allow investors to rate the chances of a bank defaulting on its corporate debts. Zero means no chance of default - now Lloyds TSB currently rates 85 basis points and HSBC is slightly higher. Bradford and Bingley, a second tier UK bank, is just over 300. While Landsbanki stands at 469 and Kaupthing is much higher at 706.
Kaupthing told us in a statement that it has a very strong funding position and strong ratings from three international ratings agencies. All Icelandic banks are experiencing wide CDS spreads, it said - but this volatility, has no real bearing on its true cost of funds.
In private some Icelandic financiers believe they are being pounced upon by secretive hedge funds.
Of course all savers should be protected from financial market volatility, and the low risk of a bank going bust by deposit protection schemes.
With a UK bank, the first £35,000 of deposits is covered. That's also true of a foreign bank operating in the UK as a subsidiary - as is the case at the moment with, Kaupthing Edge.
But some foreign banks operate in the UK as a branch. Then, consumers rely first on the foreign deposit protection scheme.
So Icesave for example is covered by the Icelandic deposit protection scheme. Kaupthing too reserves the right to switch deposits so that they are covered in this way.
So the Icelandic deposit protection would be responsible for an amount in euros, worth just under £16,000 of your savings.
For the remaining £19,000 you'd then turn to the UK scheme.
The FSA would not talk about specific banks or countries but said savers should now be looking at deposit protection regimes.
Jonathan Chapman, head of Financial Capability at the FSA added: "They do need to consider other factors such as what is the compensation arrangements - and we'd encourage them when considering an investment to talk to the providers in the first instance to get an understanding of what the compensation arrangements are, so that they're clear about that, should the very unlikely event of a firm getting into trouble actually occur".
Could a country like Iceland actually shell out the huge sums that it now guarantees? It could cost up to £3bn - a third of the island's GDP.
But the banks say that scenario's completely hypothetical - and despite the credit crunch they are actually doing better than leading American and Swiss banks.
Iceland's central bank governor says it can afford to guarantee all deposits.
The traditional rules of banking are being revolutionised, not just in Iceland, but all over the world.
After the physical run was over, deposits continued to flee Northern rock for months.
But regulatory studies have shown that deposits are systematically less stable and the FSA is warning all banks, particularly internet ones, to prepare accordingly.
Chapman said: "FSA research has shown that the rise in internet banking but also the shift in news dissemination and news through the internet - has caused retail deposit to be less sticky, which means it's more likely to move in and out of an institution, so we've asked all firms to look at how they stress test the stickiness of their deposit base...to make sure they're able to handle this change in the way deposits actually move."
The Icelandic banks disagree. Landsbanki's Icesave says that its deposit base is just as stable as any other.
Mark Sismey Durrant from Icesave said: "We're holding on to customers for the long term."
As money floods from Britain to savings banks around the world, British regulators are, we understand, toying with the idea of offering an identical deposit guarantee to all savers. That would be simpler, but runs the risks of foreign banks free riding on the British taxpayer. It's just one more credit crunch conundrum.