Protecting your deposits and investments

Like other businesses, financial institutions can fail. The difference is that other businesses aren’t managing people’s life savings. With that in mind, governments throughout the world have sought to ensure that the impact of failures is minimised and robust protection is in place for consumers.

It is important to note that these failures are rare. Even in an environment as extreme as the 2007-2009 global financial crisis in which there were multiple bank failures, most were bailed out by governments, and almost all savers were compensated in full. In subsequent failures, such as the bankruptcy of Silicon Valley Bank and the emergency acquisition of Credit Suisse by Swiss rival UBS – savers did not lose out. Over the past decade and a half, capital requirements have been strengthened significantly, with banks obliged to hold larger cash buffers and subject to limits on the level of debt they can incur.

Financial institutions must generally abide by their respective country’s consumer protection rules. In Luxembourg, one could see the first tier of protection for most savers as being the Consumer Code, which is similar to the requirements of neighbouring countries. This requires financial institutions to treat consumers fairly and transparently.

Savings institutions must provide certain information and advertise honestly, which for banks includes being clear on the interest rates they are offering and when they might change. They also must ensure that investment products are suitable for the people who buy them – high-risk products should not be advised to people who do not have the capacity to cope with extreme price volatility, for example.

The grand duchy’s deposit guarantee scheme, the Fonds de Garantie des Dépôts Luxembourg (FGDL), is a public institution that protects savings of up to €100,000 per depositor per institution.

Deposit guarantee schemes

The next level of protection consists of government-sponsored compensation schemes that ensure savers and investors are reimbursed should a bank fail. The Grand Duchy’s deposit guarantee scheme, the Fonds de Garantie des Dépôts Luxembourg (FGDL), is a public institution that protects savings of up to €100,000 per depositor per institution (or up to €2.5 million in cases of temporary high balances, such as during real estate transactions).

All Luxembourg credit institutions, as well as Luxembourg branches of international financial services groups, must be members of the FGDL. The scheme supports itself by collecting contributions from member institutions on an annual basis. The level of contribution for each institution is set according to the quantity of deposits it holds and by independent measures of risk.

The Système d’Indemnisation des Investisseurs Luxembourg provides protection of up to €20,000 for investments by eligible clients of investment firms and banks, as well as clients of Undertaking for Collective Investment in Transferable Securities (UCITS) management companies and alternative investment fund managers (AIFMs) authorised to provide individualised and discretionary investment portfolio management services.

Risks to avoid

Nevertheless, risks still exist for investors. The consumer protection schemes do not provide protection against a poor investment. If you lose money on a stock market investment, you will not be compensated – only if the company holding those investments on your behalf were to go bankrupt.

You are also not protected against failings of unregulated schemes, which is where many people experience difficulties. There are plenty of unscrupulous providers that offer plausible-sounding investment options that ultimately turn out to be scams or highly speculative in nature. You need to check whether any investment firm is registered with the Luxembourg’s financial regulator, the Commission de Surveillance du Secteur Financier (CSSF) and avoid it if it isn’t – or accept that you will have no protection in the event of a failure.

You need to check whether any investment firm is registered with the Luxembourg’s financial regulator, the Commission de Surveillance du Secteur Financier (CSSF) and avoid it if it isn’t.

Promoters of speculative or fraudulent investments often seek to lure customers with the promise of high returns for little risk. Sadly, that is not the way financial markets work – all investing involves an element of risk, and, as a rule, the higher the potential return, the higher the risk. One should always be wary of niche investment areas such as antiques, art, wine or – especially recently – crypto-currency.

Liquidity problems

Depositors are also not protected above the €100,000 threshold, which means it can be worth spreading money between different banks. You may also find that even where you are covered, it takes time to get your money back, although in principle depositors are entitled to receive compensation for unavailable deposits within seven working days. You should bear this in mind if you need money in your bank account to support yourself.

There will also be times when funds can be ‘gated’ – meaning that investors may not be able to redeem their investments within the time period stipulated by the manager, or in full. This might happen when liquidity problems arise for open-ended funds; managers are entitled to block redemptions if they believe it threatens the value of investors who remain in the fund.

This has been a particular problem in several instances from recent years with open-ended property funds. In such circumstances, the fund is not deemed to have failed; the expectation is that investors will be able to withdraw their money at a future date, and are therefore not entitled to compensation.

The importance of good judgement

The first responsibility lies with the individual investor. Only entrust your capital to reputable financial institutions that are regulated by national authorities such as the CSSF and which adhere to all consumer protection rules. Dealing with non-regulated institutions, those domiciled in countries where the regime is less strict than in the Grand Duchy, or whose authorisation to sell to Luxembourg residents is not clear, may leave you with little recourse if things go wrong.

You need to exercise good judgment about the potential risks of any investment. If the investment is opaque, valuations are uncertain, or if the provider fails to offer enough information to make a well-considered decision, they are best avoided, no matter how attractive the potential returns appear to be. There are plenty of sound, well-regulated products that can deliver risk-adjusted returns that meet investors’ needs.

If you believe you have lost out as a result of a problem with a financial institution, your first resort should be the company itself. Often disputes can be resolved relatively quickly, without recourse to compensation schemes or legal action. You may need to provide relevant documents such as contracts or statements.

Contact the authorities

If you do not receive a satisfactory resolution of the matter from the provider, you should contact the relevant national authority for consumer protection or financial industry supervision. For cross-border issues within the EU, you can seek assistance from the European Consumer Centre Luxembourg.

For claims under the FGDL deposit insurance scheme, the compensation process starts, for example as soon as unavailability of deposits is declared by the CSSF. After that, the process should move quickly. As stated on the FGDL Website: “As a general rule, the FGDL mobilises the funds required for repayment within seven working days of the date on which the deposits are determined unavailable. The repayment by bank transfer is made as soon as the FGDL has received the necessary information to carry out said transfer from the depositor.” The FGDL will create a secure compensation area on its website. “Around the fourth day after the determination of the unavailability of the deposits, the FGDL sends each depositor a letter of information drafted in several languages – accompanied by a form. Depositors are requested to return the completed and signed form to the FGDL. This form allows the depositor to communicate to the FGDL a new account number with another bank on which the refund will be transferred.”

Ultimately, there are various mechanisms to protect savers and investors should a financial institution fail, but they will not offer compensation for a bad investment, or investing with an unregulated company. For that reason, responsibility lies with individuals to ensure they pick a trusted partner for their long-term savings.