Past, Present, and the Future with Predictive Analytics
Almost 30 years ago, George Darling published a short book titled, The Business of Banking for Bank Directors. In the opening paragraphs, George compares the business of banking to a manufacturing business, stating the following: “Products that produce revenue for a bank (or credit union) are assets, and the raw materials used to create assets are liabilities.” This statement may seem obvious to most bankers today; however, this was one of the first references in the industry that compared the business of banking to that of a manufacturing business. It also uniquely referenced deposits as a “cost of goods sold” instead of as a product.
Today, the banking industry has experienced the equivalent of five years’ worth of deposit growth in a 16-month time period, coined by some as the “COVID Deposit Surge.” Our “factories” are flush with raw materials in the form of higher levels of DDA, NOW, and Money Market accounts, in a manner that most of us have never experienced. Of course, the cost of these raw materials is also at a historical low given the interest rate levels. Regardless of the “discount,” raw materials must be transformed into a productive earnings stream in the form of loans and investments to maintain higher levels of net interest income.
Unfortunately, most institutions are dealing with competitive pressures in the loan portfolio, as existing prepayments and maturities outstrip loan demand. In fact, as exemplified in Figure 1, loan to deposit ratios are well below their long-term averages at 75%.