Four Reasons to Open an Account With a Broker Instead of a Bank

How a Fragile Banking Sector is Leading Investors to Think Twice

In the wake of recent bank failures in the US, and the dark cloud of unease and uncertainty that looms above the banking sector as a result, it’s good to consider alternative options for your money. People have trusted banks with their money for generations due to a certain aura of security, professionalism, and convenience that has been fostered over decades.

However, with the recent collapses of Silicon Valley Bank (SVB) and Signature Bank in the US, and UBS buying Switzerland’s second largest bank, Credit Suisse, to rescue it from suffering the same fate, this aura is starting to dissipate. Financial market sentiment and confidence in the banking system has been shaken to the core, with gold prices jumping to one-year highs and bank stocks struggling with selling pressure.

A lot of people are rightly wondering if their money could be safer elsewhere.

While both types of institutions come with their own risks and safeguards, given recent events it could be a good time to consider opening an account with a broker instead of a bank. Let’s explore.

Four Ways Brokers Could Be Safer Than Banks

1. Segregation of Client Funds

Segregation of client funds means that whenever you deposit money into a broker’s trading account, your money is placed in an account that is separate from the broker’s own funds. In the worst-case scenario of a broker going bankrupt or unable to meet its financial obligations, you as the client are guaranteed to recover your assets.

In contrast, if you deposit money in a bank account, your funds may be commingled with the bank’s own funds, which can expose your money to greater risk. In the event of the bank’s insolvency, there may be a delay or difficulty in recovering your funds, and you may not be fully protected by deposit insurance.

2. Inflation Protection and Potential Advantage

The catalyst for the recent bank busts is increasing inflation. To ensure your assets can survive in such an environment, some brokers offer inflation-protected securities (IPS), like bonds or fixed-income investments, real estate investment trusts (REITs), commodities, and certain types of stocks that can help protect against the negative effects of inflation.

These investments may have returns that are positively correlated with inflation or in the case of IPS increase along with it, helping to protect investors from the negative effects of rising prices.

There are also CFDs (Contracts for Difference), which give traders the chance to speculate on price movements of an asset without owning it. For example, if an investor believes that inflation will cause the price of a commodity to rise, they could use CFDs to speculate on that price increase without having to own the actual commodity, as long as they factor in the high level of risk involved. If the price of the commodity does rise as predicted, the investor could potentially profit from the increase.

3. Interest Rate Sensitivity

The recent cases of SVB, Signature Bank and Credit Suisse paint an ugly picture of how certain banks don’t have the skills to survive in the land of high interest rates. If interest rates rise, banks may have to pay higher interest on deposits while earning the same or lower interest on loans, which can squeeze their margins and reduce profitability. On the other hand, if interest rates fall, banks may earn less interest income, which can also impact their profitability.

Brokers do not face the same dilemma, which makes them a more attractive alternative to banks. A broker will typically generate revenue from commissions, spreads, and other fees, which are less affected by changes in interest rates.

So even though interest rates can still have an indirect impact on brokers through their effect on the broader economy and financial markets, brokers are not as directly exposed to the same risk as banks and are therefore more resilient.

4. Risk Management

All the above points can be wrapped up in the essential concept of risk management. Every decision you make when choosing a broker over a bank – whether it’s their segregation of funds policies, the instruments they offer that could protect you from inflation, and their intrinsic tolerance to interest rate changes – is an aspect of managing your exposure to risk.

In general, brokers offer more sophisticated risk management strategies than banks. This includes offering a wide range of investment options, which can help investors diversify their portfolios. Other risk-reducing techniques include monitoring client accounts for suspicious activity, implementing margin requirements to limit potential losses, and providing education, guidance, and technical tools for risk management strategies.

In addition, brokers are required to maintain certain levels of capital reserves to ensure they can absorb losses and continue to operate even in adverse market conditions. These risk management measures can help to protect investors from losses due to market fluctuations or other unforeseen events.

What It Comes Down To

Having a bank account is still essential when taking big life steps, like buying a house or starting a new business. But given the recent news that has rocked the financial world, confidence in banks as investment houses is waning. Even though governments and central banks in the US and Europe are assuring everyone that there won’t be another 2008 financial crisis, it’s wise to consider alternative institutions for your money.

Brokers may especially offer some advantages over banks during periods of inflation and rising interest rates, but of course it’s important to carefully evaluate the risks and benefits of different investments and financial institutions based on individual financial goals and circumstances.