The FOMC cut the Federal Funds target rate by a decisive 50 basis points to a new range of 4.75% to 5%. The dot plots in the summary of economic projections indicate an expectation, on the part of FOMC members, that rates will likely fall an additional 1.5%, or more, through 2025. With this turn in the rate cycle, we’re entering what may be, in many ways, uncharted territory. While we don’t know what this falling rate cycle will look like, the last three such cycles were punctuated by crises: September 11th, the Great Financial Crisis and COVID. For a precedent of a long gradual falling rate cycle, mostly outside of the context of a major recession, we need to look back to the late 1980s and early 1990s.
A change in the rate cycle will be welcome news for banking institutions as rising funding costs have continued to erode profitability during the extended plateau of the Federal Funds rate. Since the last Fed hike, in July 2023, average deposit costs have risen by 52 bp in Consumer, 49 bp in Small Business, 76 bp in Wealth and 45 bp in Commercial. A turn in rate cycle provides the conditions for funding cost relief, but bringing down deposit rates will take some time and require careful tactical execution. Indeed, even with lower rates on the horizon, the deposit portfolio rates remain at peak levels for liquid savings at two-thirds of the banks tracked by Curinos Retail Deposit Analyzer, while the same is true for CD books at nearly half of banks (Figure 1).
Figure 1:
Savings Portfolio Rate Trend
CD Portfolio Rate Trend
Source(s): Curinos Consumer Deposit Analyzer. | Note(s): Online banks excluded. All CD terms included. Simple averages displayed.
Three Challenges to Managing Deposits as Rates Soften
Since last month’s Fed announcement that made a rate cut in September nearly certain, some banks, but not all, began the process of bringing rates down. Today’s 50 bp cut will take all those banks that had not yet begun the process of lowering rates off the fence, and those that already had started will continue the process of lowering rates with renewed confidence.
That said, three primary challenges in bringing down rates remain: term, low rate “back book” balances and competition. The specifics of how these challenges manifest will vary both by customer segment and institution.
Regarding term deposits, $2.1T in consumer CDs is set to mature over the next 12 months at an average rate of 4.46% (Figure 2). A large portion of those that renew will go back into CDs, some at rates above what they’re currently earning, especially at branch banks. Even though rates have pulled back in anticipation, the CD portfolio rate at top-quartile banks is still at 4.80% (Figure 3). Keys to success in managing these ongoing renewals include retention and acquisition of CDs at optimal rates, managing CD terms and shifts to liquid accounts.
Figure 2: % of CD Balances Maturing in the next 12M | Branch Banks vs Direct Banks | Sep ‘24 – Aug ‘25
Source: Curinos Optimizer, SNL Data | Note(s): Simple averages displayed.
Figure 3: Quartiled CD Portfolio Rates | Traditional Banks | All CD Terms Dec ‘21* – Jul ‘24
Source(s): Curinos Consumer Deposit Analyzer. | Note(s): Online banks excluded. All CD terms included. Simple averages displayed. | *Betas are indexed to Jan 1, 2022, i.e. the end of Dec ’21.
The second factor FIs will need to navigate in bringing down funding costs is the impact of the “back book” of deposits that have remained in very low-priced accounts through the cycle. Pockets of these “sleepy” deposits persist in consumer liquid savings accounts, small business accounts and even some smaller commercial accounts.
Third, even as rates fall, the cost of acquiring and retaining deposits among more price-elastic customer segments will be set on the margins based on the highest rates available from direct banks and banks with high loan to deposit ratios and from money market mutual funds. Banks will need a clear strategy to either lead or lag competitive rates on the way down and rapidly adapt to observed impacts on their book.
Some Relief for Lenders
On the asset side of the balance sheet, lower rates are a step in the right direction toward unlocking lending activity, though much of today’s rate cut was likely already priced into the mortgage market, as rates are already well off their peaks. More attention and impact will be driven by the updated Fed dot plot and the implied pace of future rate decreases.
But here again, a full recovery will take some time and other factors such as inventory and home price appreciation will play a critical role. For instance, housing market activity remains hindered by limited supply. And while lower rates should eventually unlock further volumes in the refinancing market, rates will have to fall further before refinancing makes sense for most homeowners (75% of existing homeowners have an interest rate below 5%). So further rate relief is needed, and until then, home equity financing will remain a more financially attractive option. That said, homeowners are currently sitting on record levels of equity, and falling rates may drive greater volumes of home equity products, including for home renovation, especially as consumer debt levels continue at record highs and debt-consolidation mechanisms are attractive.
But even though it’s likely to take a little time for lending volumes to fully recover, banks need to prepare now. In recent years, non-bank mortgage lenders have developed more sophisticated pricing frameworks tailored to regional competitive dynamics. That means now’s the time for banks to invest in developing pricing capabilities to maximize competitiveness and efficiency across their lending footprint. They also need to ensure that systems and staffing are ready to handle a ramp-up in volumes. And they should invest in borrower education to help prepare customers and prospects to navigate the opportunities, and risks, inherent in a shifting rate environment.
Changing Rate Cycles Creates Opportunity, but Tactics Matter
Changing rate cycles present opportunities for banks to differentiate performance by optimizing tactical pricing execution. For deposits, this means tailoring Consumer pricing strategies that are not only based on an understanding of an institution’s customers and regional competitive dynamics but also are differentiated across products and channels. In Commercial and Wealth, it means integrated relationship pricing to ensure the bank can invest in product innovation and excellent service while still turning a profit.
On the asset side, lower rates should bring an eventual rebound in loan demand, especially if the Fed manages to stick a soft landing. From the perspective of funding costs, FIs can adapt many of the pricing disciplines honed through the rising rate cycle to tactically manage deposit pricing. These include carefully constructed enterprise funding plans to strike the right balance of deposit stability and cost across customer segments.
A changing interest rate environment brings opportunity and uncertainty for banks and their customers alike. And with that comes increased churn and often greater differentiation in performance. As always, the keys to success are upfront scenario-based planning and the tools and data to measure performance and adjust plans as needed as the cycle progresses.
