Thoughts on Managing Deposit Stability
As we all know, loans are the primary driver of revenue for most banks. As banks build on lending relationships—making them “sticky” by providing other products and services—revenue increases. Of course, loans can also result in stressful situations that lead to significant and meaningful reputational and financial losses.??
To manage these loan portfolio dynamics, the industry has developed countless ways to manage, track, evaluate, report, and expand this asset class. These loan portfolio management techniques, processes, and disciplines have been refined over the decades—frequently because of financial stress.??
One could say that until the stress of earlier this year, the primary funding source for loans—deposits—has not been managed through similar techniques, processes, and disciplines. It could also be argued that deposits, not loans, are the accounts most important to a bank. Without deposits the activities on the left side of the balance sheet are not possible: cash creation, bond purchases, loan fundings, facilities expansion, etc.????
Most, if not all, banks have formal asset-liability committees (ALCOs). Many have comprehensive ways to stress, model, and shock deposits.? And many may have in place some or all the processes suggested in this article—or are considering adopting them soon. But it’s clear that not all banks have been managing deposit stability with the same attention that’s paid to the lending side. The main purpose of this piece is to encourage bankers to think about how they are managing, growing, and appreciating their depository customers. A few ideas follow.???
Appoint a Deposit Champion??
Does your bank have someone who wakes up and goes to sleep every night thinking about deposits? Your CEO, CFO, head of commercial banking, and head of retail are certainly focused on deposits. In many banks the treasurer or cashier oversees them. Whoever oversees deposits should be responsible for maintaining a comprehensive view of company-wide deposit trends and activities, and have a thorough understanding of your deposit book’s overall stability.??
The deposit champion should be a single point of contact who can provide information related to deposit growth, the source of that growth, run-off, the reason(s) for run-off, a list of the top depositors, etc.? Deposit champions should not simply be aggregators and reporters. They need to interact and communicate regularly with the first line to truly understand deposit dynamics. Speaking of communication … ?
Communicate Deposit Dynamics and Direction Effectively??
How does your institution share and communicate deposit activity outside the executive level or ALCO? At the regional or division level, if applicable, how do you discuss and report on deposit balances, changes, and activity? How would you answer the following questions????
To help communication efforts, a bank—at minimum—should consider expanding the agenda of an existing regional or division committee to include deposit activity.??
The impact of the practices suggested in this article—and the resulting data and trends—should be reported on a regular basis to personnel responsible for deposit gathering and relationship building. It is one thing to “know” about deposits; but it is another thing to “understand” deposits. By understanding, one can make better decisions, act with confidence, effectively challenge the status quo, and promote stability.??
Track and Manage Deposit Concentrations????
Prior to this year’s liquidity crisis, only a few banks reported deposit concentrations. But there is room for plenty of analysis because there are many types of concentrations. The mix of uninsured versus insured deposits is just the start. Banks can be aware of and address, if need be, deposit concentrations by:???
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Assess Deposit Profitability????
An ALCO’s fundamental duties are to understand deposit sensitivity, determine asset matching needs, establish appropriate betas, and stress deposit performance under different interest rate environments. To help meet these duties and influence results, deposit producers (retail or commercial first line) should be aware of the type of deposits that are the most costly. Does the first line understand the cost of deposits by size, locale, and/or type of depositor? How often does your institution analyze and model the impact of cost adjustments and is that information shared with the first line? Does the first line understand the impact of rate adjustments on the customer????
Evaluate Your Deposit Growth Tactics???
Effective cross-selling of multiple products and services is fundamental to a successful bank. A customer who is a user of a single product (or two) is rarely profitable or loyal. More questions to consider:???
In addition, for depositors who also have a loan relationship, do you track deposit activity based on a borrower’s loan risk grade? As a borrower’s risk grade rises (improves), balances may increase. The inverse should also be anticipated: As a risk grade deteriorates, deposit balances may fall.??
Understanding deposit movement associated with loan risk grade migration could provide several opportunities—and also be an early warning tool. Frequently, a decline in deposit balances or atypical deposit behavior precedes a negative risk grade movement, especially within the credit rating pass grades.??
Establish a Deposit Stability Rating????
In the same way risk grades are applied to loans, have you considered developing a stability (or quality) grade for large deposits? You could keep it simple, starting with grades of one to five, with one being the most stable. Some of the factors might include, but not be limited to:??
This rating would allow you to track and monitor stability levels and trends. Deposit-gathering efforts could then be altered or tweaked as needed.??
Over time, as deposit management processes develop and mature, I can see deposit stability management evolving into deposit quality management and then finally into deposit portfolio management. Today, ensuring and being able to demonstrate that deposits are stable is arguably the most needed aspect of deposit portfolio management.???
Maturity is likely to promote a truer understanding? of the term core deposit intangibles. Today, CDI is closely aligned with enterprise value or what the market determines. Better facts and data related to deposit stability will provide substantive value to determining CDI. ?
Conclusion???
While technically a liability, deposits can be viewed as a bank’s greatest asset (besides its people). They are certainly the most personal and affordable type of bank funding. So it makes sense to manage them as thoughtfully and efficiently as possible. And to remember that a bank can be defined in two ways: 1) a licensed financial institution to accept checking and savings accounts and make loans, and 2) a heap of something in a mass or mound. Without deposits, stable deposits in particular, the second definition of a bank could result.?