Last year, when rates were rising, Deluxe warned that banks should learn from the 2008 financial crisis that rate cuts are not always predictable, and can be devastating to earnings. And at the beginning of this year, when interest rates were fluctuating unpredictably, Deluxe wrote about structural factors placing pressure on banks’ margins. In both cases, we stressed the importance of setting interest rate floors to help financial institutions—especially community banks—protect their margins from the squeeze.
Banks with a high proportion of adjustable rate loans are liable to struggle when rates continue to fall—unless they have rate floors in place to at least cover fixed costs.
It’s not just interest rates
It’s not just the interest rate environment—population rates are a factor. Within the next decade, seniors will outnumber children for the first time in U.S. history. And Boomers are still active, living longer and working beyond the traditional retirement age. This results in a large proportion of the market having little demand for new loans (read: rate floors). Recent studies have found that these population factors are going to result in a significant decline in loan-to-deposit ratios. of around 40 percentage points in the next 20 years.
How is the market responding?
While rate floors have historically protected banks’ bottom lines from shrinking margins and demand, the problem has been that over the past five years the proportion of loans with rate floors had plummeted. As benchmark rates have continued to decline throughout 2019, the emerging trend has borne out our warning, and increasing numbers of FIs are turning to rate floors to guarantee a measure of NIM stability. Combined with rate caps, rate floors remove an element of risk for both lenders and borrowers.
Recently, anecdotal evidence in the industry suggests a looming comeback for rate floors. A recent article by American Banker cited evidence from banks, analysts, and even Deluxe indicating this increasing trend.
In September, JPMorgan Chase CEO Jamie Dimon indicated that chase was “thinking about how to be prepared for [zero interest rates]”, despite skepticism that the market would reach that point. And those institutions that have already reinstituted rate floors are seeing the impact. Bank OZK in Little Rock, Arkansas, reported that in Q3, 27 percent of current loans were already at their floors.
In the same article, Mike Sumner, Director of our Banker’s Dashboard product, discussed our experience consulting with community banks across the country last year. Deluxe has found that the fight for deposits has convinced an increasing number of banks to take another look at rate floors. “Many [institutions] had already started thinking about interest rate floors or had already implemented them,” Mike said.
How can Deluxe help?
Rate floors are one component of developing a long-term, proactive interest rate strategy.
Banker’s Dashboard is a powerful tool that allows bankers to track their Net Interest Margin over time—in real time—using margin reports.
The Forecasting module provides a streamlined way for users to run complex “what-if” scenarios to account for any interest rate adjustments. And, when assessing deposit-side liabilities–if your bank intends to absorb some of the rate cut, Forecasts can give crucial insight into the impact of that too.
Dashboard also houses a CD Repricing module. This tool will provide visibility into what’s maturing at any time, and allows you to better forecast the impact of rate changes.
If you’re currently using Dashboard and wondering how to harness the reporting and analytics to help guide your institution through the storm—we’re on hand to help. or, if you’re interested in a tool that can provide this level of in-depth insight on-the-fly—contact us today. The Banker’s Dashboard team includes seasoned CPAs and even a former bank CFO. Deluxe can help your institution leverage the latest technology to optimize your bank’s performance, whatever the weather.