Download - Core deposits 2013 am ifs april 2013_fp
Core Deposits 2013
2013 AMIfs annual conference
Orlando FL, April 24, 2013
Fred Poorman Jr., CFA, Managing Principal
Claudina Tesouro, Director
1
A tale of two banks:
transfer pricing and
valuing assets &
liabilities
session is interactive:
please ask questions
and/or comment on
practices at your bank
Session overview
• Rising regulatory requirements & other changes
• Bank 1: story of a community bank core
deposit analysis & systems upgrade
• Bank 2: story of a large bank upgrading systems
& methodologies (on another SlideShare
presentation)
• Review recent survey results & industry trends in
FTP & ALM (on another SlideShare presentation
2
We can all agree that It seems that regulatory guidance is ongoing;
consider the number of OCC Bulletins issued
• source: occ.treas.gov
3
We can all agree that: It seems that regulatory guidance is also
changing. Changes to existing guidance is
almost as numerous as new guidance.
• source: occ.treas.gov
4
What has happened:
Changes written by
David Bowie
Result is regulatory
requests for more robust
(i.e. expensive) systems
and more complex and
comprehensive
methodologies
Changes: “Every time I thought I'd got it made”
• Regulatory guidance grew & changed
o previous slides
• Analytical processes became more sophisticated
o stress testing & reverse stress testing
o scenario, sensitivity, and extreme event
analysis
o slides forthcoming
• Products became more complex
o products are more complex (e.g. CDOs3)
o awareness of product complexity is more
prevalent; for example MMDAs are seen
as an exotic option with implicit bank and
customer options
5
Background:
Ken, the Treasurer,
“explained” that his bank
management did not
value Core (non-
maturity) Deposits and
focused on the lowest
cost CD funding,
including wholesale and
brokered CDs.
He wondered if there
implications where any
implications for FTP,
ALM Modeling, and
Liquidity?
Bank 1: story of a community bank and core
deposits analysis
• Ken also told us that his bank used the old OTS
decay tables for FTP & ALM as “required” by their
OTS examiners.
• OTS MMDA decay:
o 32% year 1
o 37% years 2-3
this means 50% of accounts run off in
2 years!
could anyone stay in business if
this were true?
this is not even reasonable
o 17% years 3-5 , 12% years 6-10
2% of accounts are left after 10
years?
6
bank used old OTS
decay table
did this result in
profitable and value
additive behaviors?
Bank 1: what do OTS assumptions mean?
• MMDAs were transfer priced as a 2+ yr. average
life product that was a “break-even” product after
consideration of accounting servicing expenses
and fees
• MMDAs were priced around par for Economic
Value purposes
• No incentive to originate MMDAs from profitability
system or franchise (or economic) value
perspective
• CDs were used and are easier to book and
cheaper to maintain
7
the Weibull distribution is
named for Waloddi
Weibull based on his
1951 paper “A Statistical
Distribution Function of
Wide Applicability”
widely used for survival
(retention) analysis,
reliability/hazard
analysis, and root cause
analysis
we recommend The
Weibull Analysis
Handbook, Dodson, B.
(2002)
Core Deposits as a risk management tool:
A new approach to analyzing Core Deposits
• retention (survival) analysis using Weibull
distribution
o Standard statistics use central tendency
and variance as descriptors
o Weibull statistics use central tendency,
variance, and shape as descriptors
• focuses on behaviors of deposit products and
vintages (year account opened) like MBS
• provides account sensitivity parameters at
deposit product and vintage level
• these analytics readily provide replication for
FTP, ALM modeling, and hedging
• provides a mathematically valid projection of a
loss in deposits/change in average lives should
market rates change and bank holds rates
constant
8
developed by Howard Stern, PhD and Fred:
• Howard was a Finance professor turned into a banker then a Wall Street MBS/CMO quant
• Fred was a banker then Wall Street Fixed Income Research Manager morphed into a salesperson and then a fixed income fund designer
Vintage analysis is essential for MBS analytics, vintages were previously only used for back-testing in published core deposit research
Bank 1: Vintage survival curves
10
Ken and the bank’s team
came to understand that
different vintage (date of
origin) products behaved
differently, much like
loans.
This is likely due to
product design, pricing,
and marketing as well as
other internal product
pricing and external
market forces. Root
cause analysis would
quantify these impacts.
Bank 1: retention (survival) analysis using
Weibull distribution, different vintages
11
Illustrates that the Bank should raise deposit rates when market rates move or they will lose lots of deposits
Differentiator between us and others: this is the only core deposit analysis product that estimates the impact of this critical decision by ALCO
This approach is mathematically accurate, however rates have remained unchanged since publication
Changes in average lives due to holding rates
constant when market moves
12
What happened? Bank 1: Changes in FTP and incentives
• Both insured and uninsured MMDAs had much
longer lives than OTS assumptions
• Changes in FTP methodology to match new
behavioral analysis
o MMDAs were now profitable under new
FTP methodology and inputs
o Other Core (non-maturity) Deposit
products were very profitable
o Above is true as yield curves are usually
upward sloping
• Team members are incented to grow Core
Deposits
• Bank understands profits coming from sub-
Wholesale Funding rates, not just CRE loans &
mismatch risk
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What happened?
Bank MMDA average
lives changed from 2.4
years to 7.0 to 10.5 yrs.
Overall, Core Deposit
average lives went from
2.7 to 10.6 years
Bank 1: Changes in ALM & franchise value
• Recognized significant profit and economic value
increases from Core Deposits
• De-emphasized CDs, especially Brokered and
Wholesale, and refocused on Core Deposits
• Additional profitability from selective loan
extension
• Better understanding of core behaviors (average
vs. older & recent vintages…prepayment
analogy)
o Different assumptions for existing and
new book of business
• Increased franchise value, EVE, EVE sensitivity
• More stable funding and better liquidity ratios,
especially Basel II/III Net Stable Funding (NSF)
ratio, where Core Deposits are the numerator
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