Is It Time to Raise Your Deposit Rates?

The  greatest  determiner  of  profitability  in  a  financial  institution  is  interest  margin (the difference  between the  interest  paid  on deposits  and  borrowed  money  and the interest  earnings  on  loans  and  investments). 

This  means, one  of  the  most  important  duties a  credit  union  board  and  manager  performs  is  making  sure  interest  rates  on  loans  and  deposits  are  set  to  assure  a  healthy  margin.    

Recently, rates  on  Treasury  Bills  have  experienced an  upward  trend.   

Also,  in  the  past  little  while,  some  financial  institutions  have  been  raising  deposit  rates.   

No  doubt,  under  these  circumstances,  you  as  a  credit  union  manager  are  feeling some  pressure  by  members  and  maybe  even  by  your  board  members  to  begin  raising  deposit  interest  rates.   

Credit  union  CEOs  need  to  be  sure  they  are  changing deposit  interest  rates  based  on  the  outcomes  of stochastic  modeling  tools  and  not  simply  because  the  competition  may  be changing their  rates.

Too  many  times  we at  TCT hear  from  CEOs,  “I  watch  my  competition  and  set  my  deposit  rates  according  to theirs.”

As  I’ve  pointed  out  before,  setting  your  rates  according  to  your  competition  might work  if  the  following  were true:

  • Your  competitions’  income, expenses and  economies  of  scale are identical to  yours
  • Your  competition  has  the  same  short  term  and  long  term  profitability  goals as  you
  • Your  competition  has  the  same  loan-to-deposit  ratio  as you
  • Your  competitions’  Interest  Rate  Risk  is  identical  to  yours
  • Setting  deposit  rates  at  or  above  your  competition  assured member-satisfaction and/or  profitability
  • Your  competition  is  not  setting  their deposit  rates  by  watching  their  competition  (which  includes  you)

Of  course,  most  of  the  above  points  don’t  apply  to  your  credit  union.

Too  often,  setting  rates  (deposit  or  loan)  by  watching  the  competition  leads  to  unacceptable loan-to-deposit  ratios  and profit  margins.   

Instead  of  looking  to  the  outside  to  set  rates,  credit  unions  should  be  looking  within their  own  balance  sheet  and  using  empirical,  statistically  derived  methods.   

Dr.  Randy  Thompson,  CEO  of  TCT,  after  research  and  statistical  analysis,  has  developed  a  Margin  Management  tool  which  assures  a  healthy  interest  margin.   

Dr.  Thompson’s  Margin  Management  model  uses  a  “dividend  payout  ratio”  which  is  formulated  using  a credit  union’s deposit  interest  costs  divided  by  interest  income.   

This  “dividend  payout  ratio”  is  then  used  to  set  interest  rates  on  deposits  taking  into  consideration  a  credit  union’s  Interest  Rate  Risk  parameters,  loan-to-deposit  ratio,  budgets,  and  short/long term  goals.

TCT’s  Margin  Management  Tool  provides  these  benefits to  credit  unions  that  utilize  it  fully:

  • Higher profitability
  • Control  over  deposit  interest  expenses
  • An  objective,  non-emotional method  for  setting  rates on  each  class  of  deposits
  • An  additional  metric  for  managing  Interest  Rate  Risk
  • Establishes  deposit  rates  according  to  a  credit  union’s  financial  health
  • Can  be  used  to  project  cost  of  funds  and  perform  “what  if”  scenarios
  • A  planning  tool  for  establishing    budgets
  • Continual  readjustment  of  the  dividend  payout  ratio  as  a  credit  union’s  balance  sheet  and  plans  change
About the Author
Dennis Child

Dennis Child is a 40 year veteran credit union CEO recently retired. He has been associated with TCT for 25 years. Today, Dennis enjoys providing solutions and training for credit union managers. He also uses his financial credentials and advisory skills to assist the Boomer generation plan and prepare for their retirement years. He and his wife, Geri, live in Logan, Utah. Dennis can be reached at dennis@tctconsult.com.