Three Considerations for Deposit Management
Earlier this year, the Fed implemented two rate increases and appears poised for another increase at the end of this year. With rising rates and improved loan to deposit ratios that have more institutions looking for funds, it’s fair to say that deposits are squarely back on the radar. At Raddon, we’ve been talking with our clients about the implications of the changing environment and how to prepare for the coming challenges. The first and most obvious takeaway is that:
1. Deposits will once again be a factor in consumer FI decisions
During the protracted low rate environment, consumers had little incentive to shop around for better return on their deposits. In turn, according to data from Raddon’s Research Insights program, 52% of households with at least $25,000 on deposit indicate they now have over $65,000 parked in liquid accounts awaiting better opportunity. In other words, there is clear and significant pent up demand for yield and these funds will be easy to move. As rates rise and better deposit offers emerge, these consumers will be increasingly prone to choose financial institutions based on the deposit value afforded to them; this is quite a divergence from nearly a decade of consumer FI decisions being driven by loan value.
Accordingly, institutions need to prepare their staff to have meaningful deposit discussions and re-deploy long-forgotten deposit strategies and tactics in order to remain competitive and relevant in the eyes of the consumer. On this matter, an interesting discussion surfaced at our recent Performance Analytics workshops: will intensifying deposit competition wake the sleeping bear that is the “hot money” consumer? Quite simply, how much will rising rates re-invigorate the deposit-oriented shopper? And if this is the case, another key consideration is:
2. Retaining and growing deposits in a cost effective manner
While deposits will be a growing factor in consumer FI decisions, another key finding from our Research Insights program is that consumers show a greater willingness to move funds internally at an existing institution to earn a higher rate than they would move funds to a new institution for better return.
Thus, the implications of this consumer sentiment are two-fold:
- There is notable risk for cannibalization, where existing funds simply move into higher-rate products, and
- Attracting new deposits will require more aggressive pricing
The clear concern here is a potential dramatic rise in the cost of funds if institutions don’t manage products and pricing effectively. As such, a key metric in this rising rate environment will be the New Money Ratio – that is, the percentage of deposits that are brought in from external sources versus internal deposits that are simply moved into higher-rate products. Recognizing that more volatile accounts such as checking may be challenging to monitor, as new deposits are brought in – particularly as it relates to specific deposit campaigns – staff should be instructed and equipped to track how much of these funds are coming from internal accounts versus other institutions.
While requiring new money to earn certain deposit incentives can help achieve growth goals while mitigating cost increases, it can just the same dismay existing customers who already have large deposit balances at the institution. Therefore, financial institutions will need to impart policies and procedures for granting new money exceptions for certain existing customers (and train and prepare employees to elegantly manage and discuss these situations).
A final consideration with respect to deposits relates to:
3. The long-term deposit risk with aging households and the massive transfer of wealth
According to data from Raddon’s Performance Analytics program, at the average institution, 11% of customers are currently over the age of 71 but they account for over 30% of an institution’s total deposit base.
As these households age out, there can be significant risk of funds run-off. (And going forward, there likely will be even more risk associated with Baby Boomer households, currently aged 53 to 70.) In order to assess the degree of risk, organizations should begin to identify whether the beneficiaries of these accounts are currently customers at their institutions. Furthermore, in instances where the beneficiaries are in fact customers, financial institutions should develop strategies and tactics for reaching out to these beneficiaries and offering assistance and guidance for managing this newly gained wealth.
Ultimately, the changing environment and shifting demographics portend that effective deposit management will be vital to organizational success in the coming years. Are you prepared to remain competitive as consumers respond to rising rates? And how much long-term risk is there within your deposit base? Because as these dynamics play out, your organization’s strategies are primed to dictate whether customers – and their deposits – come to, stay with or leave your financial institution.