Over the past four years, we have lived in a time not seen in quite some time. We all had our
own experiences with the COVID-19 shutdown and reopening.
We experienced massive fear and then funding through the P.P.P., EIDL, and Main Street
Program funding and pure exhaustion. At the forefront of this scenario, we had historically low
rates for a decade or longer, and then the whiplash of a 500+ basis points increase at
unprecedented speed. Banks experienced massive changes to their unrealized gains and still feel
that pain today. Liquidity, interest rates, and asset liability management became the flavor of the
day. Then, the regulatory focus changed, and it felt eerily like the 2008 regulatory environment,
with several banks being shuttered earlier this year.
As we stand at the peak of the rate cycle, it is crucial to consider the current market predictions.
The headlines suggest steep rate cuts, with one forecast indicating a potential 135 basis points
reduction by January 2025. This information is vital for those navigating a volatile rate cycle.
A clear strategy is essential when your most rate-sensitive and likely best contacts approach you
for a renegotiation. The knee-jerk reaction might be to lower the rate, but a well-thought-out
plan is necessary to navigate this situation effectively.
It is essential to consider a few key factors:
How quickly can the bank adjust the rates on its liabilities? Can the bank match this speed
due to higher levels of leveraged capital through the loan portfolio? Speed on both sides of the
balance sheet is critical in this scenario. Your N.O.W., money market, and savings accounts will
re-price in real-time, or at least they should. However, the certificate of deposits will re-price
much slower. We need to be mindful of the unintended consequences, such as margin
compression due to the speed of lowering rates. This presents an opportunity to evaluate what
worked well and what needs correction in pricing your liabilities, especially in light of all the
special promotions on certificates of deposit. This is a valuable lesson that can guide future
strategies.
What criteria will the bank set in motion for the rate reduction? This opportunity is
monumental because this “crisis” is the opportunity to implement specific controls with
customers, such as a borrowing base, an additional conversation for expectations of providing
information to the bank, or possibly a chance to right a wrong past decision. Many variables and
assumptions will go into each decision.
At this point, the bank will have to decide whether to lower the rate. Loans that leave the bank
will only happen to those who can. Not everyone’s risk profile should allow for a rate reduction.
The borrower will be able to provide updated information for current analysis. If they consider
moving, they must give the same information to a new bank. You should already know that
before a particular customer contacts the bank.
Things that should be considered are: What is the cost of acquiring a new loan customer?
What do your margins look like after the rate movements?
For those who cannot or will not qualify for a rate reduction, maybe it is time to roll that
relationship into a guaranteed program at a lower rate and pick up a safety net for the downside
risk.
This next part may seem a bit predatory, but it will happen. It is an opportunity for you to attract
another bank’s best customers at a more attractive rate and get their loan and deposit relationship.
Simultaneously, you will want to play defensively with your best customers. The competition
will be doing the same thing. This is a growth opportunity and an opportunity to invite some
customers to enjoy the better rate down the street while getting your best customers stickier. It is
a great time to re-evaluate each customer’s relationship on both sides of the balance sheet. Also,
Many banks are attempting to unwind some concentrations and will be willing to sell participation or two.
By now, I know you get the point. This is an opportunity to correct wrong decisions and, in
many cases, strengthen that relationship. The keys to success are knowing your acquisition
cost and prepay speeds on loans and investments, developing your strategy, communicating your
plan to your team, and just being ready. No one knows when or by how much, but interest rate
volatility is imminent.
Think about your strategy, the process, and the systems needed to implement this rapidly. What
are the downsides or risks to the plan? What are you missing? Is this a loan relationship
that the bank still desires? Over the past 37 years, I have learned that the Fed will always
move toward equilibrium to meet its mission. As Keith Cunningham states in, “The Road Less
Stupid, Advice from the Chairman of the Board,” the future is uncertain and unknown.
McSwain Consulting can help you with your strategy. Reach out to us to set up that
conversation.