The Wise Investor
"I'm afraid not, Kate. In fact, if ten to 20 percent of a
bank's customers decided to withdraw their money, the bank
would have to close its doors and cease operation.
It simply does not have enough money kept aside to pay
back more than this many people. All the rest of their
deposits have been lent out on loans, often long-term loans
that will not be repaid for many years. The finance industry
are the ultimate gamblers, Kate.
Insurance, banking, is all about playing the odds. The
institutions that we believe are the safest and most secure,
are the ones that simply survive on confidence and statistics.
In many ways, it is the best example of the 'self-fulfilling
prophecy'; as long as the public believes an institution is
secure, then it will be, but if the public looses confidence and
begins withdrawing their money, then the whole operation is
on shaky ground."
Kate looked exceedingly glum.
"I am telling you these things, Kate, so you will
understand how the financial system operates. Once you
understand it, you can use it to your benefit. You will not be
throwing your hard-earned money away because you do not
understand how the system works.
To be a successful investor, you must understand the
basic concepts that our financial system is built on. Keep
everything in perspective, though.
Take banks as an example. Although banks and other
financial institutions do sometimes fail during major crisis,
these failures are very rare. In fact, over the past hundred
years, you will find that a very small number of financial
institutions have actually ceased to operate and lost money
for their depositors.
However, it does happen, so I will caution you with the
golden rule of investment. I have not mentioned this rule to
you yet, but now seems an appropriate time. This rule, Kate,
is the most important principle of investment. It is the most
critical rule in money management, the single most valuable
thing I can teach you.