How Worried Should You Be?

With much of Wall Street and Washington in panic mode, investors and consumers might feel like they should be on the move, too. But what to do: Buy? Sell? Stuff the mattress? Head for the hills?

Maybe just digest. There's a lot to swallow, coming off a weekend that saw the nation's housing-mortgage-credit crunch roll over some of the nation's biggest financial firms. Lehman Brothers filed for bankruptcy, Merrill Lynch agreed to sell itself (at fire-sale prices) to Bank of America and insurance monolith American International Group (AIG) scrambled to find enough cash to stay in business. Why? The short answer is that any company that got itself involved in buying, packaging, trading and selling bad mortgage loans and their spinoffs is now paying the price.

To shore up the nation's financial system and their own prospects, 10 of the remaining big banks, including Goldman Sachs, Citigroup and Morgan Stanley, agreed to pitch in $7 billion each to create an emergency fund that could bolster the next troubled institution. The Federal Reserve expanded its loan program, eased its own collateral requirements to give banks greater liquidity and left hints that it might lower interest rates when it meets Tuesday.

The stock market's initial reaction was measured. But by the end of the trading day, the Dow had plunged more than 500 points, its biggest single-day percentage drop since July 19, 2002. "So far we've seen AIG, Bear Stearns, Countrywide, Fannie, Freddie, Lehman and Merrill," says Sam Stovall of Standard & Poor's. "That's just the first half of the alphabet." Stovall says he expects to see stock prices to "cascade down" even more in the days and weeks ahead.

Those stock prices are just one of the worries facing savers and investors now. More immediate are questions like "Is my money still in the bank?" And "Can I have it now? What about my brokerage account? And what about my insurance policies?" For the most part, the answers to those questions remain calming. Regulators have spent a lot of time reassuring consumers that come hell and high water on Wall Street, the Feds still have our backs. "The securities and cash will be right there where they need it to be," said SEC Chairman Christopher Cox in a televised interview. "Investors can just continue dealing with Lehman and ... Merrill as they always have."

Still, consumers can take measures to protect themselves now from the weaknesses that most expect will be around for a while. Maybe you don't have to run to the bank, take out cash and hide it under your pillow, but here's what you need to know now.

Brokerage customers have some protections. Your accounts may not be protected from falling securities prices; if you owned Lehman stock, you already know that you've lost a bundle. But they are protected from the brokers themselves going under or getting sold by the Securities Investors Protection Corp., a reserve fund that does for brokerage customers what the FDIC does for bank depositors. Lehman brothers carved out its retail brokerage business from its bankruptcy filings, so folks with those accounts might not even need that insurance.

"It appears that all customer cash, stocks and other securities are accounted for," said SIPC President Stephen Harbeck. "SIPC has not initiated a liquidation proceeding against the broker, dealer Lehman Brothers Inc., and we do not currently anticipate doing so."

Those accounts will ultimately be transferred to other brokerage firms, but the SEC said customers will not lose access to their accounts during the period when Lehman's holdings are liquidated and transferred.

Merrill account holders have even less cause for immediate concern. The firm remains solvent, and in the event of a takeover by Bank of America, there's no reason to believe the securities and cash held in those accounts wouldn't remain stable. But account holders in those two firms can ask themselves this other question: Should they be paying top dollar for investment advice from companies that couldn't even keep themselves safe? 

Investors might use the opportunity of the shifting financial landscape to adjust their own accounts to discount brokerage firms, which are similarly insured by SIPC but which charge less and don't give the same kind of investment advice. A portfolio of inexpensive, diversified mutual funds bought at the lowest possible cost might be a better solution for long-term investors.

Keep safe money safe. So far this year, there have been 11 bank failures that required FDIC coverage of depositors' funds. So make sure your deposits stay under FDIC limits (find them at FDIC.gov). Money-market mutual funds are reportedly safe, and investment-company issuers tend to bolster their own funds when they threaten to lose value. But since some money funds do own corporate debt, like that of Lehman Brothers, it makes sense to be absolutely certain.

Stick with government-backed money-market funds or bank money-market deposit accounts. Right now, interest rates in all of these accounts remain so low that it isn't worth taking extra risks to be in an unsecured commercial money-market fund.

AIG's hurting, but your insurance is still being funded. Most policyholders need do nothing, says David Schiff of Schiff's Insurance Observer, an industry newsletter. AIG owns close to two dozen insurance subsidiaries, including American Life Insurance Company, AIG SunAmerica Life Assurance Company and Lexington Insurance Company. But those insurance companies have their own regulatory safeguards, and policyholders should be protected. "It won't have any material effect on those who have auto insurance with AIG," Schiff says. Life-insurance policies should remain solvent, too. AIG's problem is not solvency, but liquidity to cover calls on its bad investments. Those shopping for insurance should pay extra attention to ensure they're buying from companies with the best possible ratings.

The economy will continue to shake and quiver. Recession, recession, recession, says everyone except the official statisticians. Standard & Poor's is expecting economic weakness to continue through March, consumers are still debt-burdened and unable to shop the country into prosperity, and now banks and brokers are in the same tight spot. That means more layoffs and downward pressure on interest rates. Oh, and you can forget about the raise you were hoping for. The best move for consumers during a recession is to line up protection: 

Solidify your importance at work; sharpen the resume just in case and salt away cash for the rainy day, even if it's already raining. It makes sense to pay down debts like credit card bills, but not mortgages that may be at low rates already. With mortgage rates responding to the tumult by falling further, some pressured families may find it worth refinancing. Today, 30-year fixed-rate loans are priced solidly under 6 percent.

Investors can take their time putting their money back into the market. It's too late to get out of the way of the crashing financial sector, says Stovall: "Chances are, the worst there is behind us, so now is not the time to be selling."

"The financial crisis is much closer to its end than its beginning," says Mark Zandi, of Moody's Economy.com. Market analysts seem to be converging on a view of the market that looks like this: it's going to get worse before it gets better, but it will ultimately get better.

"There's more downside now than upside," says Jeffrey Hirsch, publisher of the Stock Trader's Almanac. "But it's times like this when good buying opportunities happen, and we've got our radar out. If we get a huge blowout down, that would be the time to shop."

Believe it or not, he's looking to load up on the banks.