what to do with the “Covid Money”: From the start of the COVID-19 crisis, anyone looking at the impact on other countries could foresee that it would significantly impact many Americans’ lives and livelihood. Accordingly, we in the financial services industry started to prepare for a crisis that would look like the one we experienced in 2008-09. Thankfully the worst scenarios have failed to materialize so far.
Some of the lower-income segments of the population saw income stabilize or increase. It is reported that in May 2020, the aggregate personal income remained resiliently above pre-pandemic levels. Home prices also remained stable in most markets thanks to mortgage forbearance programs and moratoriums imposed by state/local authorities on evictions which prevented immediate-term foreclosures and evictions. Plus, the drop in the for-sale inventory arising from restricted mobility added stability to the housing market.
All the above resulted in a change in Americans’ behavior who suddenly became savers at record levels. The April 2020 stimulus check contributed to an increase in saving rates to 33.7%, and even in December, consumers saved 13.7% – a highly atypical behavior. And that money is sitting in Demand Deposit Accounts (DDA) at Credit Union and Banks, creating both opportunities and headaches for those who monitor profitability. So, what to do with the Covid Money?
Three ideas on how to look at the “Covid Money” that arrived in your portfolio
1. Use the liquidity to prepare for a scenario of jagged instead of a V-shaped recovery.
We expect you to actively look at your reserves and your exposure based on your market dynamics, member/customer base, and industry exposure. That is a good thing. We also encourage you to be conservative in your scenarios because despite the sharp decline in bankruptcy filing registered in January 2021, let’s remember that follows finishing 2020 with a 10-year record of corporate bankruptcies. Once the federal programs fade out, how long will it take for all those businesses to come back? And while the economy will continue to open, general business revenues are unlikely to rebound very fast. Some sectors, e.g., the travel, restaurant, and hospitality sectors, will not see the demand recover to pre-COVID levels anytime soon.
The first step is understanding the Money Flows inside your institution and monitor all deviations from your liquidity/funding plan. For example, deposit cannibalization is enormous; usually, about 30% of all observed deposit account balance growth is funded by internal money flows. Right now, the flood of DDA has caused a liquidity surplus and excess short-term funding in most CUs and banks. As rates change, these surge deposits will seek higher yields, potentially having a major effect on your portfolio term structure. Can you afford not to know about these shifts on a timely basis?
2. Consider investing in your members’/customers’ financial health.
Your members/customers will always remember how you made them feel, especially when times are difficult. Part of the reason the money is sitting in DDA accounts is that depositors are insecure about the future. Consider surveying your members to determine their plans and whether you can help them achieve their financial goals. That will be particularly critical to those who have above-average balances. If we learned something before this crisis, large banks were particularly good at siphoning money away from smaller players. Now is your opportunity to build fences to avoid the high loan/deposit ratio scenario some credit unions had not that long ago. When the economy heats up, the demand for term funding will return, and funding/liquidity shortfalls are a conversation that you don’t want to have with your regulators.
In preparation, focus on understanding your member/customer behavior by segment, branch, variances among products.
3. The recovery will create more lending opportunities, be ready to take full advantage of them.
Consider turning the extra liquidity to become a lending machine. There will be an increased demand for loans of all sorts during the recovery. You now have the funds to be even more competitive in your lending. You can take advantage of your insight into member behavior to maintain the funds and increase the lending on a more advantageous risk profile.
Not sure how to do it? That is a conversation we are happy to have with you.
We know that sometimes it takes a village, so count on us to help you with these and other business challenges based on identifying your institution’s flow of funds. It is time your data works as hard as you do to help you succeed. Press here to start a conversation!