Excess systemic liquidity continues to place downward pressure on banks’ aggregate demand for wholesale funding. The impact of government stimulus programs and stagnant loan growth has resulted in a record-low Loans/Deposits ratio of 56.9% in the second quarter.
Regardless, TBS continues to experience an uptick in demand for our FDIC- Insured Deposit Product (IDP) as banks take advantage of this cost-effective funding in anticipation of a return to normalized levels of loan growth. The timing of such lending remains to be seen, with most of our program banks forecasting late Q1 as the economic expansion continues to settle into pre-pandemic levels. Moreover, the average NIM of 2.56% in the second quarter is also at an all-time low. This has forced many banks to aggressively manage the liability side of their balance sheets by replacing higher-costing funds with alternatives such as insured deposit sweep balances. As we await a return to normative levels of liquidity, TBS expects to maintain its competitive advantage via IDP’s lower cost relative to other sources of wholesale funding (see below).
The economy expanded by 33.8% in Q3 with the FOMC projecting GDP to grow by 7% for the full year. It is then expected to drop to 3.2% in 2022 and 2.4% in 2023. The FOMC estimates a 4.5% unemployment rate for 2021, dropping to 3.8% in 2022 and 3.5% in 2023. Core inflation is expected to be 3% in 2021, dropping to 2.1% in 2022 and 2023. However, supply chain disruptions and dislocations in the labor markets threaten to place longer-term pressure on the CPI.
The September FOMC meeting minutes reflect Fed Chairman Powell’s bias towards a November taper announcement. While FOMC members stressed that this is not a precursor to a rate hike, CME futures currently project a 38% probability of an increase by this time next year. Meanwhile, the effective fed funds rate remains at .08%, reflecting the drawdown of the Treasury General Account (TGA) and asset purchases pushing more cash into the system. This has resulted in an even greater overabundance of liquidity at a time when assets are scarce. Further exacerbating this issue is the Treasury’s willingness to continue reducing its bill supply.
The good news for banks is the ongoing steepening of the yield curve with the 10-year Treasury note hovering around 1.50% versus pandemic levels below .70%.
The FDIC’s brokered deposit ruling went into effect on April 1 with the amendment to the regulation seeking to more clearly define what constitutes a “deposit broker” and, by extension, the classification of the deposits administered by such parties.
The outcome provides, under the appropriate circumstances, the opportunity for banks to classify these insured sweep balances as non-brokered deposits. Companies providing these funds would have to first qualify under the Primary Purpose Exception (PPE) which states that the agent or nominee’s primary purpose is not the placement of funds with depository institutions. This required notification to the FDIC starting April 1st of this year.
Currently, several of TBS’s source institutions have either filed for the PPE or are in the process of doing so. Regardless, TBS can accommodate both brokered and non-brokered sweep balances depending on which of our clients qualify.
TBS urges all banks to discuss with their examiners the specific circumstances under which this ruling may be applicable to their balance sheets.