11 AZBANKERS.ORG Rates have now risen uncharacteristically aggressively in a short period – in fact, the delta between market rates and what banks are paying has never gotten this wide this fast. Even if depositors aren’t looking to move their money, it’s hard for them to ignore what’s happening. Additionally, during the pandemic, we made it easier to do things electronically and conditioned customers to avoid branches. Today, banking practices are very different than three or four years ago. So the dynamics are about to get really interesting, notwithstanding the excess liquidity still out there. What’s your advice to banks? Have a clearly documented game plan. (Many banks don’t.) Start by figuring out how much money you can, or are willing to, let leave; then determine which deposits are most valuable and prioritize those. Next, divide your deposit base into manageable pieces. Start by rank-ordering your largest-balance relationships (this will help with one-off conversations). Second, review your mass-market, traditional banking relationships. Third, review the “tweeners,” or those that aren’t quite whales but larger discretionary balances that could be at risk (mid-tier balances commingled with operating balances in those traditional accounts). Get your people in a room to assess the elasticity of deposits in each sector and your value proposition for those different consumer types, specifically, whether it’s driven by rate or other factors. Figure out your pricing strategy for each and how much outflow you will accept in each area and why. You recently wrote that all banks have what appear to be core deposits but are actually Trojan Horses. What did you mean? Monies that look like core deposits but have a high potential for disintermediation. Municipal deposits are one kind of Trojan Horse. Large commercial balances are another – many businesses have funds sitting in their banks that dwarf what they need for operations, but they’re also facing cost pressures, and it’s hard to ignore the opportunity to pick up the notably incremental yield on their excess cash. If they do need money, many will “borrow” from themselves. The third kind is CDs. CD balances have contracted notably through this cycle, but much of that is CD-mentality money sitting in savings accounts, now accounts, or money markets that will move back into CDs. What should banks be thinking about if rates keep rising? Everyone seems to get overly fixated on rising rates and how high they might go, but no matter what a bank’s interest rate risk profile is, the worst scenario for this industry would be for rates to do an about-face and head lower for three reasons: 1) Funding costs can only go so low, but assets will keep pounding down until eventually everybody’s margins get squeezed – it’s just a matter of how quickly and to what degree; 2) declining rate environments are highly correlated with declining economic environments, which are highly correlated with assetquality challenges, delinquencies, and elevated reserves; and 3) when economic activity slows, the outlook for loan growth darkens. Today, banking practices are very different than three or four years ago. So the dynamics are about to get really interesting, notwithstanding the excess liquidity still out there.
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