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Pricing deposits to keep customers happy

Neil Stanley from The CorePoint joins us on the BAI Banking Strategies podcast to talk about how banks should think about deposit rates as a way to satisfy customers.

Nov 15, 2022 / Consumer Banking
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The dramatic rise in interest rates in recent months has more savers thinking about the returns they’re getting on their money.

Neil Stanley from The CorePoint joins us to talk about how banks should be thinking about deposit pricing as a way to keep customers happy.

A few takeaways from the conversation:

    • When banks don’t deal properly with depositors, they set themselves up for more vigorous competition from fintechs and other nonbanks working to poach customers.
    • Savers fall into several broad categories in terms of expected return, so banks should implement an “option offense” that gives them flexibility to satisfy each category.
    • There’s a clear benefit in keeping existing customers, but it’s bad business to give into the temptation to overpay for deposits. The challenge is finding the right balance.

Neil Stanley, CEO at The CorePoint, welcome to the BAI Banking Strategies podcast.

Thank you, Terry. Great to be with you.

Neil, your company is in the business of helping financial institutions with their long-term savings and deposit products, so you’re closely attuned to interest rates. Before we get into the deposit conversation, tell us how you’re looking at the macro rate environment as meeting after meeting, the Fed keeps coming up with these three-quarter point bumps.

The interesting thing about this is that it is such a dynamic after a period of so much stable, ultra-low rates. We must understand that the Fed is currently the only hope for controlling inflation. There’s little on the horizon for establishing fiscal restraint. So we put so much fuel on the fire that the only way to achieve greater price stability is to raise interest rates from the ultra-low levels we’ve experienced for many years now.

The Fed’s latest numbers show deposits at U.S. commercial banks down by roughly $300 billion since peaking in May 2022. That said, deposits are still close to $18 trillion, which is up more than 30% since the start of the pandemic, and it still represents an excess to what they can put to work via loans. The Fed is raising rates to slow spending, but consumers still have a lot on hand to spend. So how do you see this playing out in terms of what the Fed is trying to do versus all the dry powder that’s there in the banks?

With regard to inflation and interest rate, everyone’s going to have their own personal views and forecasts. As financial professionals, we should look at what those in control are doing, saying and reporting. Everyone’s united on hoping that we get full employment and stable prices. However, hope is not a strategy, as you know. Strategy is focused in on the Fed’s dot plot quarterly. It comes out, and what we need to understand is, in their forecast, their long-term forecast, they’re always going to put interest rates a little bit above their inflation forecast. They’re forecasting about 2% inflation. That means you’re going to have more than 2% Fed funds. And the reality is getting down to 2% inflation is going to be super difficult to do because we are deglobalizing after the pandemic. We saw the woes of supply chain, and we are not going to want to be dependent upon a global supply chain for many things, including computer chips and such things. As we do that, we’re going to push inflation up. It’s not going to be able to get back to 2%. You have to keep in mind as a banker that we’re not going back to the ultra-low rate environment. If we’re not going back, we’re going forward.

Such an abundance of deposits, though, it makes an attractive target for those fintechs focused on the deposit space as a way to build up their customer base. They’ve had some success in that by paying significantly more for those deposits than what banks are paying. It’s worked during the time of ultra-low rates. Do you think it will keep working?

As long as bankers view deposits, as they did last year, as a burden – they saw deposits as a burden, and they were happy to give them away — and you mentioned the large portfolio that we have currently in banking already. They’re really opening the door and inviting competitors and disruptors when they casually deal with depositors. It’s amazing to me to see bankers today casually abandoning depositors who are looking for something relevant to them. We see that S&P is reporting that the average savings rate is still 50 basis points, and yet Fed funds are at 4%. People know that the bank can invest its money at 4%, why can’t they get paid something? And yet the bankers are saying, “I don’t want to reprice my whole portfolio.”, and I get it, but you’re going to have to figure out as bankers when to hold and when to fold. And there are times where we need to stay in the game. And I think this is one of those times. I’ve had many bankers recently say, “What looked foolish just a couple of months ago looks brilliant today as rates have continued to rise.”

You mentioned a 50 basis point savings rate. I checked the deposit rates the other day at a number of the biggest banks, and they’re still, they’re well below that, they’re barely above zero. Not surprising given that they collected so much in deposits over the past two years during the pandemic. But are we at the point now where some community banks, maybe some smaller regional institutions that didn’t share so much in that largesse during the heart of the pandemic, that they should start thinking about paying up a bit to increase their deposit share, if for no other reason than to protect their flank from eager competitors out there?

Yeah, that is definitely the heart of the issue today. As you look at the financial institutions out there that have these portfolios that they’re trying to protect the cost of, they’re seeing that with rising rates, that there’s a whole bunch of profit opportunity if they could get more deposits, but they don’t want to reprice their whole portfolio. So what the question really needs to address is the fact that you’re going to see some rates, but those rates don’t actually reflect the rates that are being paid. You’re going to see quoted rates, but there are rates for the content, there’s pricing for the curious, and there’s pricing for the rate seekers. Those people are table pounders. They’re going to come in and make themselves known to the retail deposit service rep that they aren’t going to be satisfied. And so what you’re seeing more and more is differentiation.

These three categories; the content, the curious, and the table pounders, as you call them, how do you break them down in terms of their size? Is it like a one-third, one-third, one-third thing? Is it something different? And for those that are considered content, is it mostly because they’re not really paying that close of attention? And the table pounders, are they going to be rate chasers no matter what?

Let me describe them just a little bit more. The content are content because of the approach that a conservative saver has and their life stage. The curious are those people who want to do the right things for themselves and their heirs, and they don’t really want to make waves. They just don’t want to be chumps. They don’t want to be taken advantage of. Now the aggressive, that rate shopper, table pounder, as I sometimes call them, they enter the dialogue with the posture that they have been taken advantage of, and they’re going to make it right. They’re going to come in and fix this issue because they feel like they’ve been deprived over all these years of ultra-low interest rates. They see that the bank is getting 4% on fed funds. They know what that means. They’re just making sure that they get themselves up to where they think they should be, and they’re going to use all the competitive information that’s available. Now the size of each category, Terry, is going to depend a little bit on the interest rate environment. In other words, when interest rates are low, it’s trivial whether you get the top of the market or the middle of the market or even the low of the market. But as interest rates rise, that spread starts to make it worthwhile. The old phrase “Is the juice worth the squeeze?”  And when the interest rates are no longer non-trivial, when they’re material, people are going to pursue them. It’s going to go back to more their personality rather than just, “I guess I gotta accept it because that’s the way it is.” kind of thing. The size of the categories, how many people are in each? I can tell you there’s a lot more rate shoppers today than there were, but there’s still a significant amount of people who are content as long as you treat them fairly. They don’t want to be abused. Those are really things that you have to keep in mind when you think about the size of these portfolios.

Each one of these categories, there’s a different profit margin for the banks with each one. So it makes sense to be able to tell them apart. And I understand what you’re saying about as rates go higher, there may be a shift within that group because there’s more at stake, but how can banks reliably tell these folks apart and especially at scale when so much of banking is done digitally and how does the institution differentiate its pricing for each one of these groups?

The typical long-term saver by definition is conservative. They are managing their life savings and they want someone trustworthy to discuss their money with. That doesn’t mean that they won’t use a digital bank, but they will typically do at least some of their research with people. For example, not many people bought an iBond without talking to some people first. Even though it all had to be done digitally, they still wanted to know, “Hey, is everybody else on this bandwagon or am I alone?” So you cannot tell which individual fits a category simply by their demographics. It’s only in their behavior and their behaviors at the past point in time don’t necessarily reflect what their behavior is going to be now. In other words, just because somebody was a rate shopper in the last conversation, doesn’t mean they’re going to be a rate shopper in this conversation. So you really need an option offense, which means you start off with a dialogue to discover where they’re at with rate sensitivity and assume that they’re content until they prove that they’re not. Assume they’re curious until they prove that they’re not. Because you have to keep in mind that, oftentimes, with long-term savers, the first time you talk to them, they may have been feeling fit and healthy and dominant and they had a certain posture. The next time, maybe health is an issue and they’re coping with some situations, they have a different posture. The next time, maybe their heir is starting to enter in the conversation and they’re going to have a completely different posture. So you cannot categorize based upon demographics in your CRM and say, “Hey, we’re going to have to do this for this depositor and this for this depositor.” because it’s situational at the moment.

I was wondering how long it was going to take to get a football reference in there from a Nebraska guy. But thinking again in terms of today’s competitive environment for banks, many might be hesitant to shift to the sort of approach to pricing deposits because there are some potential risks involved. So for those who might be more open to the idea, is there any enduring value in being a first-mover, given the tendency in the business to be more of a fast follower?

First of all, differentiated deposit pricing is not new. The technique of using some technology is relatively new, but the idea of community banks years ago was that they would know when they see it. They would be able to manage through the situation. And you could even say it was like relationship pricing. That’s an immature approach. Most people gravitate towards relationship pricing, but it’s problematic. What we know for sure is because of the low rates and recent balance sheet composition, bankers are caught off guard today as rates have risen so abruptly, so aggressively. And so we’ve moved into a period of time when the technology is now available to help the banker negotiate, help them see the value proposition that goes beyond rate. And we have a whole generation today that’s going to wake up, Terry, to the fact that putting money to work means something different than it meant in most of their life. For most people, the term putting money to work was synonymous with putting money at risk. The interesting thing today is you don’t have to put your money at risk to put it to work. And so you’re going to have people who are waking up to the fact that we have technology to move money and interest rates that make it a motivation that’s worthy of managing that money and easy to do. And so back in the 80s, we had rates, but we had no technology. Later, we got technology without rates. Now, we have both. And depositors are going to recognize and manage accordingly.

Even with the changes in the industry that you’ve been talking about, as a rule, it remains true that you want to keep the customers that you already have. It’s no secret that new customer acquisition is hard already and getting harder and it’s getting more expensive as well. You’re saying that banks should resist the pressure to overpay for deposits, but you also don’t want to risk being penny-wise and pound-foolish and end up losing the relationship. How do they balance on that high wire?

It’s science and art. Don’t let anyone tell you it’s just art. That’s that whole relationship pricing, we’ll know when we see it. And it’s not just science. You’re not going to have somebody with a black box who says, “Here’s the golden price that considers price elasticity analysis, and it’s just the optimized price point for every customer.” It doesn’t work that way. In this time of transition away from ultra-low rates, bankers first of all have to realize the battle is within the bank. Because if bankers aren’t attuned to the current interest rate, they’re going to make way too many wrong assumptions. They must adjust pricing expectations on both sides of the balance sheet. Loans, we have to get loan pricing accurate. You cannot have treasuries be at 480 and the average loan in the United States has got a 5% yield. Makes no sense. So they have to get the right expectations within the bank. And then the bankers need to use the technology available at their fingertips to operationalize a more professional approach that satisfies the content while treating them fairly, comforts the curious, and appropriately holds the line with the rate shopper. Because the reality is when we talk about price differentiation, we’re not saying we’re going to match. Matching is a loser’s bet. Never match. But know when you draw the line, where you want to draw the line, here’s the highest price we’re going to go for this particular offer. And then after you draw the line, then have a retention strategy beyond that. That’s what bankers today are doing. They are not just simply saying, “Take it or leave it. Here’s our digital offering.” They are negotiating and they are working people through a series of offers, rather than just say, “Take it or leave it.” I think that this ace in the hole that bankers are using for retention, where instead of negotiating a rate match strategy, they’re saying, “Hey, I can give you a savings account that pays the CD yield, as long as you do something good for the bank, make some sort of commitment to our bank.” Because if you have 4% overnight rates, and you tell a depositor that you’re not going to pay something close to that, you’re giving up profit. You’re abandoning profit. Yet you can’t give 4% rates to everyone. So what you’re doing is you’re negotiating. You’re looking just like a commercial lender on the retail side of the bank. On the deposit side, you are negotiating in a sophisticated professional way, Terry, and that’s what’s going to set apart the successful banks from the other banks that are eventually going to be no longer in business as we see the combinations continuing.

Neil Stanley, CEO with The CorePoint, thanks again for being with us on the BAI Banking Strategies podcast.

Thank you, Terry.