This month’s Review highlights notable trends and projections in DCG’s Deposits360°® Cross Institution Analytics database and deposit volume and pricing models.
Looking Back
It may be the most wonderful time of the year, but it has not been a wonderful life for those who managed deposits in 2023. When the year started, the FOMC had just delivered another 50bp rate hike, which took the Fed Funds rate to 4.25% - 4.50%. This year saw four more 25bp rate increases, the last of which was delivered at the end of July. With the market in a wait-and-see posture, it’s an opportune time to consider how deposit pricing has evolved since the beginning of this rate cycle.
Source: Darling Consulting Group, Deposits360°®
Betas in the current cycle will differ depending on the period observed. In fact, if the Fed were to keep the funds rate static, total betas could be expected to move higher as deposit rates continue to “catch up” to the current environment. Beginning in March 2022, there was a noticeable lag in deposit rates as institutions were initially slow to reprice higher (keep in mind the industry was still awash in pandemic-related deposits). However, after the Fed increased rates by 300bp over a six-month period, institutions moved rates more aggressively in attempts to stem deposit outflows or grow their funding base. Instead of moving in a linear fashion, betas were, in fact, dynamic in nature – this highlights an important limitation in the use of static, linearly-applied betas in interest rate risk models. DCG’s forecasted rate model captures the dynamic nature of deposit rate changes by projecting monthly rate changes for each product type based on the magnitude and the speed in which market rates are assumed to move up, down, or sideways.
Another dynamic that continues to play out on the pricing front is in tiered MMDA accounts. Before the current cycle, all balance tiers for MMDA were near zero. Throughout 2023, however, more institutions began to widen their range of offering rates in order to retain large balance relationships without incurring the cost associated with a blanket increase.
Source: Darling Consulting Group, Deposits360°®
Now that the industry has entered a higher-for-who-knows-how-much-longer phase, one topic that will get a lot of discussion in the upcoming quarter will be related to CD portfolios – in particular, how to best manage upcoming CD maturities. Considering CD growth trends by term, the vast majority of CD growth in the current cycle has been in short-term buckets (6-to-11-month and 12-to-17-month). As a result, DCG has urged clients to think critically about how to manage large volumes of CDs coming due in the next couple of quarters. What will/should happen with maturing specials? Are longer-term maturities appropriately laddered to provide repricing flexibility? What is the best way to manage a shift in depositors’ appetite for longer-term CDs in the face of potential falling rates?
Source: Darling Consulting Group, Deposits360°®
Looking Forward
The market has already tied a bow on expectations that the next policy rate movement will be a rate cut. In fact, the market is pricing in about 150bp of rate cuts by the end of 2024. This is a more dovish outlook than the FOMC dot plot, where consensus opinion suggests 75bp of rate cuts next year. The fact remains that even with 100bp of easing over the next 12 months, we still expect further non-maturity deposit contraction of about 8%. This is due to the lagging impact of depositors having more competitive investment opportunities.
Source: Darling Consulting Group, Deposits360°®
Given that the Fed has been in a holding pattern with its policy rate since July, the upward inertia in deposit rates has begun to subside. Back in July, DCG forecasted an additional 25bp of pent-up pressure in deposit costs for a Base scenario over 12 months. Today, that expectation for deposits to continue pricing higher in a Base scenario has fallen to 16bp. If market expectations bear fruit and we see 100bp of rate cuts next year, DCG expects NMD funding costs to stay relatively flat relative to where they are today. In this scenario, the impact of rate cuts will essentially quell the residual upward pressure caused by trailing rate hikes.
Source: Darling Consulting Group, Deposits360°®
If and when the Fed begins to cut rates in 2024, discussions at ALCO and within Pricing Committees will no doubt be centered around the timing and magnitude of internal rate cuts. There will likely be a contingent with intentions to cut rates “immediately” when the Fed makes its first cut. Some follow-up questions for these individuals may include: Which rates, specifically, do you want to cut? Where should you cut first? What if your competition does not cut rates at all?
While every institution is in a unique position, data shows that deposit pricing does, in fact, lag at the start of a falling rate cycle. In fact, immediate rate reductions could result in further outflows at a time when liquidity is at a premium. To illustrate this, DCG examined the historical and projected growth trends for MMDA products assuming a Forward yield curve. The Forward yield curve factors in a Fed Funds rate that falls to 4.78% by the end of 2024 and 4.27% by the end of 2025. Balances may be impacted if institutions were to begin the cycle by immediately increasing or decreasing MMDA rates by 25bp.
Source: Darling Consulting Group, Deposits360°®
Based on DCG’s projected beta for MMDA products, balances are projected to shrink by about 7% in 2024. If the industry responds more quickly than it has historically and cuts MMDA rates by 25bp at the beginning of the falling rate cycle, the outflows are projected to be closer to 17% in 2024. Those who do the opposite and reprice 25bp higher are projected to grow balances by nearly 3%. This underscores the importance of rate decisions on overall funding.
Game-plan now for a range of Fed rate outcomes. Those who can formulate a pricing strategy ahead of time will have an advantage in the next cycle.
Darling Consulting Group will continue to monitor the Cross-Institution data in Deposits360° and bring you insights to help you manage your deposit portfolio.
To learn more about how DCG's Cross-Institution analytics can help drive strategic decision-making, click here.
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