another way: alternatives to traditional banking and investing

Trust in the financial industry has waned in the past few years, and not without good reason. When an institution is driven entirely by profit, the consumer is generally the one who gets the short end of the stick. I mean, the Frost Bank tower downtown is nice, but…between you and me, I’d prefer higher savings rates, lower loan rates, and better customer service. As it so happens, there’s a way I can get it, thanks to the advent of credit unions.

Credit Unions

The fundamental difference between a bank and a credit union is this: while a bank is owned by shareholders and is operated for a profit, credit unions are owned by its members and are not-for-profit. The board of directors is elected by the members, on a one-vote-per-member basis — how much money you have with the bank is irrelevant.

So does this actually help the consumers? Well, let’s compare Frost Bank rates with its neighbor down Congress, Amplify Credit Union:

Amplify Savings Account: 0.2%. Pretty awful, eh? Well, guess what?
Frost Bank Savings Account: 0.05%. That’s right — five percent of one percent.
Amplify 5-year Share Certificate: 1.49%. Sigh. No good saver goes unpunished.
Frost Bank 5-year CD: They don’t have them. Um, what?
Amplify 2-year Share Certificate:  0.75%.
Frost Bank 2-year CD:  0.6%.

And so on. Well, what about loan rates?

Amplify New-Car 36-month Auto Loan: 1.99%+. Man, I would have liked that back when savings accounts were pulling 5%…
Frost Bank New-Car 36-month Auto Loan:  The same rate as for a 60-month loan. Again…what?
Amplify New-Car 60-month Auto Loan:  3.49%.
Frost Bank New-Car 60-month Auto Loan:  4.74%. Ouch! And remember — if you had taken out a 36-month loan, it would have been the same rate as this one!

I could go on, but I’ve got other things to talk about in this post. Just bear in mind that if you are a member of a bank, credit unions are an appealing alternative. Though banks do tend to have prettier skyscrapers…

Peer to Peer Lending

Speaking of alternatives, if you’re looking to get a loan, especially an unsecured loan (i.e. one that isn’t tied to something you own, like your house or car), there’s an alternative that can work even better than a credit union: peer to peer lending. The big players in this arena are Lending Club and Prosper, and the idea goes something like this: instead of a bank giving you one large loan, you are given many small loans — say, $100 each — by a number of peers. There is still some underwriting and background checking done by the host company, and your loan is “graded” and your rate chosen based on your grade. And check out these rates:

Amplify Unsecured Loan: 9.5%+
Lending Club Loan:  6.78%+ APR (this includes the fee charged for handling your loan)
Prosper Loan: 7.4%+ APR (ditto here)

If you’re running a balance on a rewards checking account — and those suckers tend to average 18+%! — you owe it to yourself to check out peer-to-peer lending.

Is this real? What’s the catch? Yes, it’s real, yes, it works, and yes, there can be a catch. The fact is that P2P lending tends to attract folks who can’t get loans through traditional means. As a borrower, that’s okay, but if you’re considering being a lender, you’ll definitely want to do your research.

Fund-Owned Investment Companies

Finally, if you’re looking at investing for the long term, there’s an alternative to the norm there, as well: fund-owned investment companies. Well, there’s really only one that I’m aware of: Vanguard. The idea behind Vanguard is that instead of being owned by outside shareholders, it is owned by its mutual funds — that is, the people who actually buy its product, its customers. And what are mutual fund customers most interested in, especially ones who are looking for index funds? Why, the lowest expense ratio possible, of course. Even if you’re not buying index funds, expense ratio is still the best predictor of overall fund performance out there. Even Morningstar has to admit it:

“If there’s anything in the whole world of mutual funds that you can take to the bank, it’s that expense ratios help you make a better decision. In every single time period and data point tested, low-cost funds beat high-cost funds….Expense ratios are strong predictors of performance. In every asset class over every time period, the cheapest quintile produced higher total returns than the most expensive quintile.”

Not surprisingly, Vanguard has the lowest expense ratios anywhere.

Anybody else noticing a theme, here? In all three cases, when financial institutions are owned and operated by the communities they service, the communities are the better for it. Now, I’m not against the capitalist model by any means…but it’s nice to know that there are viable alternatives.

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