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Raising Meaningful Deposits In 2024: Buy Or Build?

In 2024, deposits will continue to be scarce and expensive for most financial institutions. With their marginal cost of funds (mCOF) as high as 13%, many will opt to protect their base rather than try to expand it. They may be better off weathering the rate cycle before resuming deposit acquisition in 2025, when Curinos anticipates deposit growth to resume.

But for those that may want to take advantage of a relative lull in competitive activity, the question becomes whether it would be more advantageous to buy deposits by acquiring a financial institution or to build them organically.

The Near-Term Outlook

Interest rates on deposits will likely be high in 2024, even as the Federal Reserve reverses its policy-tightening cycle. For many banks, “higher for longer” on deposit rates will continue to squeeze both net interest margin (NIM) and profitability. The result: insufficient retained earnings and free cash flow to invest in meaningful deposit growth, whether organically or through acquisition.

NIM pressure will be compounded by the mounting need to cut expenses. In a higher-rate environment, any efficiency gains from branch consolidation, or example, will be eroded by a greater burden placed on the back book and the forfeiture of future value from lost customers. Adding to the pressure is a continuing balance-sheet overhang from low-performing government securities that limits investable capital and can undercut earnings.

The need for deposits is only as strong as the prospects for loan growth. The macroeconomic outlook in 2024 is improving, but asset growth by region and sector is likely to be uneven. Investing heavily in deposit growth starts with the confidence that those funds will be put to profitable use.

Finally, according to the Curinos Consumer Deposit Analyzer, only the top quartile of branch banks achieved material deposit growth in 2023, while the industry was down in volume by about 2% and the bottom quartile was off by 9% (Figure 1). So a limited number of institutions may have the appetite and wherewithal to add meaningfully to their deposit book in 2024. For them, this article presents the case for buying and the case for building.

Figure 1: Consumer Deposit Growth | Branch Banks | Jan ‘23 – Oct ’23

Only the top quartile of branch banks experienced deposit growth in 2023
Source: Curinos Consumer Deposit Analyzer. | Note(s): All figures include consumer deposits only. Simple Averages Displayed.

The Case For Buying

For banks that may be looking to buy deposits by acquiring an institution, these may be the best and worst of times.

On one hand, valuations are considerably lower than at any time in the past five years, and established franchises that foresee no relief from their profitability bind may be willing sellers. But on the other hand, many potential sellers would come with an underwater balance sheet that could take years to patch up. In addition, 2024 is an election year, which could create regulatory uncertainty.

Against this backdrop, here are key criteria – all of which need to align – in determining whether purchasing deposits through an acquisition makes sense. Some are as much an argument against “building” as they are for “buying.”

Acceptable marginal cost of funds (mCOF). Any acquirer will need to determine whether a seller’s mCOF is more favorable than the cost of raising deposits organically. This requires the right data and analytics to determine the volume of “core” deposits embedded in the back book and, even trickier, how sticky they’ll be after a transaction. How many core customers – those less motivated by rate than relationship – will remain loyal? Another consideration is the composition of the acquired institution’s deposits by line of business and what that means for mCOF. Commercial and small-business deposits, for example, are typically cheaper and stickier than retail and wealth deposits.

Balance-sheet overhang. To what extent are government securities and other outside investments tainting a seller’s balance sheet, and what’s their maturity timetable? Such a potential “poison pill” could diminish an otherwise sound proposition – and buy time for a reluctant target.

Too much concentration in dense markets. When an acquirer’s deposits skew too heavily in their dense markets, using rate to raise new deposits can get expensive if existing customers, including those not especially rate-sensitive, catch wind of a better deal. In this instance, buying new deposits out of market through acquisition could be the more economical alternative.

Not enough brand presence in thin markets. Relying on thin markets to build new deposits can be highly efficient because most of the back book is protected from repricing. The strategy, however, requires sufficient brand presence to attract and retain money that comes in. When brand presence is lacking, the “buy” option can be more appealing.

Brand compatibility in purchased markets. Any entry into a market where the acquirer’s brand is not well known puts purchased deposits at risk of attrition. In this scenario, an acquiring brand needs to tell its story quickly so it is perceived as being compatible with the attributes of the brand being retired.

Too late in investing in organic growth. Acquiring new customers requires investments in digitally fueled marketing systems and processes. For banks late to the game, the costs of new-customer acquisition may be too high to achieve adequate customer lifetime value. Purchasing deposits, especially those that come with sophisticated customer-acquisition engines, could be the better option.

The price of raising deposits through an acquisition would depend on a variety of factors including the seller’s mCOF, the weighted average life of the deposits, the quality of the balance sheet, growth prospects in its geographies, lines of business with sustainable fee income, and the marketing expertise, and will, to sustain customer growth. It would also depend on current market conditions, which appear to be improving, and on how acute the acquirer’s need is for funding its projected loan growth.

The Case And Strategies For Building

Many of the arguments for building are the flip side of the “buy” coin. For example, building makes sense for those who’ve made a sufficient investment in the technology and expertise of customer growth. It also makes sense where there’s not an overconcentration of deposits in dense markets (where the back book may be most at risk) and/or enough brand presence in thin markets to make new-money and rate promotions effective.

To build deposits through customer growth, a bank needs to have:

  • The analytics to be surgical in applying strategies in dense, moderate and thin markets
  • The digital self-learning tools and acumen to effectively undertake personalized marketing
  • Enough brand presence in thin markets to raise new money without repricing the back book

For growth-minded banks with these capabilities, here are several specific strategies to consider in 2024:

Invest in non-rate levers. A small amount of non-interest expense can save big on interest expense. Curinos has found that an investment in marketing, branch-based tactics and focused customer communication can create the same deposit growth as repricing, but at much lower cost because many depositors aren’t seeking rate. Curinos data show a large difference in deposit betas between banks that successfully acquire primary checking and those that don’t.

Have the interest-expense line share the marketing burden. Many institutions tend to lump an introductory offer, whether cash or bonus rates, into the overall marketing burden rather than recognizing it (or a portion of it) as interest expense. This means relationship growth is often adversely affecting the non-interest expense line, which is increasingly under fire. At the same time, rate-based deposit growth largely hits the interest-expense line, which is typically not affected drastically by acquisition campaigns.

Target your marketing. The objective of a targeted promotion is to attract customers with material balances at other institutions without disturbing existing customers with large balances. Rate can be powerful in raising deposits quickly, but only if the offer is fenced off from rate-sensitive customers already on the books. This approach is in marked contrast to often-used branch signage, for example, which leads to significant exception pricing for existing customers who see that they’re not getting the best rate. And there can be a material increase in cost of funds without incremental balances because non-customers are not seeing the rate at all.

Double down on small business. So far in this rate cycle, small-business deposits have been acquired at about half the cost of consumer and commercial deposits, and they exhibit a significantly lower portfolio cost over time. A primary reason is that the majority of small businesses hold their balances in non-interest-bearing (NIB) checking accounts. And at the three-year mark, small business balances are three times greater than consumer balances. When an FI has the primary lending relationship, it gets even better: Deposit balance levels are more than twice as high as without it.

Consider brokered deposits, but with eyes wide open. Brokered deposits can raise funds quickly, but they’re relatively expensive, especially in a higher-for-longer rate environment. They provide funding value but not liquidity value as they are clearly not core funding. Brokered deposits can be a useful tool in a broader funding strategy, but can never be relied on in great quantity.

No question, raising deposits will be tough in 2024. Higher market rates and intensified competition mean new deposits are more expensive than at any time in the past 15 years and out of reach for many institutions.

For those with the wherewithal, buying them through acquisition can provide an injection relatively quickly. But doing so can come with unwanted baggage and regulatory complications. Building them, on the other hand, is a long game that requires technology, marketing expertise and patience.

With rates unlikely to go back to near zero any time soon, whatever the chosen strategy in 2024, be ready to invest more and reap less, at least for a while.

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