Last month, we published a blog post about “The Pending Battle for Small Business Deposits.”  That may have been an understatement.  In the days since, earnings reports, industry coverage, and executive conversations with our clients and partners suggest the deposit environment represents a “Clear and Present Danger” to US banks’ earnings.  

• Overall deposit environment is under increased pressure, with a run-off of nearly half a trillion dollars in just 10 months, presenting banks with new challenges to meet regulatory & liquidity requirements and profitability targets.  Banks are refocusing efforts on deposit gathering, particularly from lower cost and defensible sources 
• Consumer deposits, while highly valued by banks, may not be the saving grace due to economic pressures, ease of money movement, and increased pricing-based competition
• Commercial deposits are important sources of low-cost funding, but can be hard to poach without being tied to an offsetting large credit
• Small business deposits are valued by regulators, are low cost and “sticky,” and can be acquired/built without being tied to an offsetting credit.  But banks need to understand emerging threats to their SMB base

Given the macroeconomic, regulatory, and competitive pressures, we anticipate, banks will increasingly put their focus on winning SMB deposits.  The winners here will be banks that can identify immediate competitive threats, successfully build moats around their relationships, use value added services as lures to win new business, and efficiently identify additional services to deepen relationships.  Monit’s insights for business bankers help them better understand which FIs they are competing against, where additional deposits are held, next best actions to win new accounts, and differentiated capabilities for business owners unavailable at other banks to retain the operating account position. So, let’s break down the analysis:‍1. There is a further shrinking of the total deposits held at US Domestic Commercial Banks

After peaking in April of 2022 at $18.1T, the decrease in total deposits held at US banks is accelerating.  In only 10 months, the total deposits held has decreased by 2.7%, equating to almost half a trillion dollars.The higher interest rate environment remains significantly influential on deposit balances (and pricing!) held at US banks.  On February 1^st, the Fed raised interest rates an additional 25bps, while reiterating an outlook that includes additional rate hikes in the future to fight inflation.  With higher rates, account holders will increasingly move funds into higher return options (i.e., Treasuries, other liquid securities) or demand higher interest rates to keep deposits at the institution.  Additionally, borrowers with variable rate loans are facing higher expenses which will be drawn from deposit accounts to pay down at a higher rate. 2. Regulatory and Liquidity requirements heavily influence deposit gatheringWhile the regulatory rules vary based on the governing body and asset size of the institutions, there is a consistent focus on ensuring health and resiliency in a tougher economic environment.  One measure used to promote large bank’s resiliency to short-term liquidity risk is the “Liquidity Coverage Ratio” (LCR).  In calculating the LCR, Regulators prize the types of deposits that are seen as “sticky” in a more adverse operating environment.  Thus, the larger banks are required to undertake stress testing annually will more aggressively go after “high quality” deposits: Retail/Consumer, specialty deposit solutions (i.e., escrow accounts, 1031 exchanges), and SMB operating accounts – hunting particularly from smaller institutions. Smaller banks falling outside of major markets are no longer immune as high yield accounts aim to attract deposits nationally, including aggressive initiatives from the major banks. ‍3. Consumer deposits are highly valued - but there are emerging concerns about the sector

Consumer Debt levels hit an all-time high, with $16.9T in credit card debt outstanding, up $13.3T from just a year ago (Exhibit B).  While consumer credit delinquencies and default rates have been relatively low, certain subprime sectors like auto lending are starting to see increased portfolio pressures. Correspondingly, personal savings in December ‘22 were near their lowest rates in the past decade at 3.4% (Exhibit C), as pandemic-related government stimulus programs have expired, personal consumption has exceeded the pre-pandemic growth rate, and consumer debt service payments reached a decade-long high (Exhibit D).  

As inflation drives increased costs in non-durable goods, higher rates increase borrowing costs, and pandemic-influenced savings run off, consumers - and particularly those more vulnerable to economic turbulence will have fewer dollars to set aside.

‍4. We are also seeing more aggressive pricing competition for consumer depositsFor customers that do have excess cash on hand, some banks are aggressively competing by leveraging highly attractive pricing, often without balance limits, transaction minimums, or other restrictions in prior years.  Add in new digital features, efficient applications/onboarding, and easy money movement makes competition particularly intense.  Consumers are able to easily “rate shop” using online marketplaces like Bankrate.com, NerdWallet, and Forbes.com to find online accounts paying 4.25% and up with easy online applications, onboarding and immediate funding.  Correspondingly, these high yield accounts are able to attract excess deposits from consumers that would have traditionally sat in a lower rate checking account at their primary institution. 

5. Well, what about sticky Commercial or Specialty Deposits?
That is right!  Commercial and Specialty Deposits are stickier, are seen positively by regulators, and can form a low-cost funding base.  But each faces its own challenges:

1. New commercial deposits can be difficult to win independent relationship pricing tied to a new large credit.  Promises made by the client to move over deposits are often slow to materials and can offset the funding the loan required.
2. Existing commercial deposits from clients are increasingly receiving exception pricing in response to client demands.  The ad hoc nature of exception approvals makes it challenging to fully manage forward deposit betas.  
3. Specialty deposits are a great option – but organizational commitment is needed to build vertical differentiation to get started.  Team lift outs of deposit specialists with existing clients can take time to migrate over and lack of technological differentiation may make it moot. 

‍6. Ok, gotcha… So, are SMB deposits the key to build a stable and low-cost funding base?Bluntly, SMB deposits quickly emerge as one of the few remaining sources of low cost and stable sources of funding available to banks.  Deposit checking accounts frequently pay little to no interest and related products like CDs reduce the risk of outflows.  Treasury account analysis pricing for larger SMBs allows bankers to avoid on-going interest rate questions by providing a monthly credit tied to deposit balances that helps offset operational and transaction fees.  But similar to consumer deposits, they are quite important for the largest banks to meet their regulatory and stress testing requirements.  The large banks are starting to get more aggressive in targeting the sector, including JP Morgan Chase announcing plans to hire 500 new business bankers over the next two years, an increase of 20%.  Recently closed M&A deals, including BMO’s acquisition of Bank of the West, US Bank’s merger with Union Bank, and TD Bank’s purchase of First Horizon all included public Community Benefit Plans that outlined multibillion-dollar commitments to grow their small business portfolio.  7. SMB deposits are more valuable than ever and will be increasingly competitive.  What should I do and how can Monit help?

‍This is very interesting!  Where do I learn more?ContactMax Koenig, VP of Sales, Max@monitapp.ioRyan Johnson, Chief Customer Officer, Ryan@monitapp.io