A Tale of Two Banks: Stories From the Battle for Liquidity, Part 3

Even before headlines reported the recent commercial bank failures, last year's series of interest rate hikes already had bankers focused on growing deposits, protecting the deposits they already have, and stepping up loan loss provisions. In this three-part blog series and accompanying webinar on June 7, we examine Q2 PrecisionLender's proprietary data to reveal stories of what's going right—and what could go wrong—in the chase for deposits.  

In part 1 of The Tale of Two Banks, we profiled the 40% of our Q2 PrecisionLender clients that had deposit growth between September 2022 and February 2023, and in part 2 we profiled the 40% of clients that had a decrease in deposits in that period. In part 3 of this story, we’ll look at the data for March and April 2023 to see what significant changes occurred since the well-known bank failures.   

For the overall Q2 PrecisionLender client base, March and April 2023 deposit flows did not change the concentration of financial institutions with increased deposit balances (40%), maintained deposit balances (20%), and decreased deposit balances (40%). The reading was the same at the end of April as it was at the end of February.   

However, the segmentation view by FI asset size shows some shifts in the past two months. The Enterprise group experienced an increase in FIs that maintained balances, 33% up from 14%. In addition, the percentage of Enterprise FIs that saw a decrease in balances moved from 29% to 17%. The Regional segment continued to show the highest concentration of decreased deposit balances; 66% of FIs saw an increase, up from 61% in February.   

September 2022–April 2023

Next, we followed up with our two study groups of bankers: the deposit expansion group and deposit contraction group. As a reminder, both groups are illustrative portfolios from several FIs and do not represent a single institution or book of business. The contraction group continued its rapid pace of deposit attrition because its deposit mix is dominated by rate-sensitive interest-bearing (IB) accounts. From the other view, the lack of foundational non-interest bearing (NIB) operating account balances contributes to the overall contraction.  March and April saw accelerated activity with 17% contraction for a total of 29% for September 2022 through April 2023.  

For the expansion group, the March and April banking sector uncertainty appears to have stalled deposit growth. This group maintained balances overall (up 1% for the two-month period) and maintained its IB to NIB mix at 45% and 55%, respectively, for the period.   

The contraction group showed accelerated erosion in deposit balances—down 17% for the March and April period. The contraction group’s experience shows the balance sensitivity of the IB accounts. In this example, the lack of the NIB operating account as a mix component amplifies the attrition.

Change in Deposit Balances

Deposit Expansion Bankers: Rate Type Balance Mix

Deposit Contraction Bankers: Rate Type Balance Mix

The Knock-On Effects of Deposit Contraction 

In terms of relationship composition, the expansion group held steady or improved in all categories. In contrast, the contraction group fell in all categories except loan balances. The relationship growth measure indicates a decrease in the number of relationships served at 84 versus a maintenance level, 98, for the expansion group.     

For the contraction group, the deposit balance and relationship erosion combined to cause a loss in net income. Another contributing factor is the loss of net interest margin on the deposits. In contrast, the expansion group continued its positive performance story, though at lower levels than shown at the end of February. Spreads on both loans and deposits tightened.

Relationship Composition Change, Indexed to September 2022=100 as of April 2023

The transient nature of deposits has really exacerbated the loans-to-deposits ratio for these banker groups. While we would not expect a ratio of less than 100%, the recent trend indicates an added pressure for the contraction group: The existing interest-earning assets are consuming more and more liquidity from the rest of the organization. Meanwhile, the expansion group has generally maintained its degree of liquidity.

Loans to Deposits, LDR

The market uncertainty and headwinds are universal. The expansion group bankers and their leadership appear better prepared to deal with these challenges based on key attributes we’ve found during this study, including: 

  • The high degree/presence of foundational NIB operating accounts with attached treasury/transactional services within the relationships 
  • Banker empowerment as highlighted in part 1 of this series 
  • Responsive and strategic leadership to deploy Q2 PrecisionLender 

What Can You Do? 

The presence of the foundational operating account with transaction activity services (online banking, treasury services, payment cards) provides both funding and liquidity. The expansion group exemplifies this successful outcome by creating stickiness and share of wallet for the most valuable relationships at most FIs. Therefore, to create more profitable relationships, some key strategies are clear:  

Use rate paid /beta movement as a strategy. We observed high and low beta strategies within both the expansion and contraction groups; however, the expansion group moved higher and adapted to the market faster than the contraction group.

Example Rate Paid Trends

Recent interest rate hikes and curve term structure have opened the door for refinements in deposit valuation. There is room for product and price specificity. The range of FTP credit rates in April 2023 shows about 20% of FIs are actively managing the methodology and credit rate with values well above the median 4.25% level. We also compared the two ends of our time period to look at the magnitude of FTP credit rate change. When the range of FTP credit rate is sliced into quartiles, about 40% of the observations have held steady at about 4%. The top and bottom quartiles have moved upward materially since September. Overall, the FTP credit rates on NIB and IB deposits have converged since September and moved up approximately 130 bps.

Range of FTP Credit Rates as of April 2023

Interest-Bearing Non-Time Deposits FTP Credit Rate Range

FTP Credit Rate Trend

Active consideration of liquidity premiums within the deposit valuation is appropriate. Premiums are up about 100 bps since last June by our proxy liquidity curve. Many FIs manage their own liquidity curves, and the overall trend has been upward. Recognizing liquidity producers and sources of funds may be separate measures within deposit valuation. Incentive compensation should consider the acquisition and retention of foundational operating accounts.

Q2 PrecisionLender Liquidity Curve, Selected Maturities

Managing the valuation in Q2 PrecisionLender is critical, as is timing and ease of change management to adapt to the current macroeconomic environment.

This deep look at what is creating success—and what is hampering it—has shined light on how important it is to equip bankers with the right tools and empower them to use those tools to create stronger, more profitable relationships with commercial customers. If you limit that ability, you may limit your FI’s potential for success in uncertain economic times.

Get More Insights at Our Upcoming Webinar

Join Q2 PrecisionLender experts on June 7 from 1 to 2 p.m. CT for more insights about the findings from this research.

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Commercial Loan Pricing Market Update: June 2023
Commercial Loan Pricing Market Update: June 2023

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Commercial Loan Pricing Update (April 2023)
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