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    Balance Sheet Webinar Series Recap, Part 3: "Balance Sheet Resilience & Adaptation Playbook"

    June 2023

    Balance Sheet Webinar Series Recap, Part 3: "Balance Sheet Resilience & Adaptation Playbook"

    "Tackling Balance Sheet Management in a Volatile Market" Part 3: "Balance Sheet Resilience & Adaptation Playbook"

    The ongoing raft of bank failures and an evolving regulatory landscape have renewed the focus on balance sheet, interest rate, and liquidity risk management. In a recent series of webinars, experts from Moody’s Analytics covered a wide range of topics including investment portfolio risk, liability and deposit side risk, how to employ a 5-step balance sheet playbook to navigate the current market dislocation with greater efficiency and confidence, and best practices in developing an effective ALCO. In this article we summarize best practices and discussion around the Balance Sheet Resilience & Adaptation Playbook.

    Recent events have reminded us that the business of banking works effectively only when bankers are aware of how much liquidity they need and when they’ll need it. The third webinar in our series shared a 5-step playbook to help banking executives navigate current market disruption with greater efficiency and confidence. These steps include:

    Targeted outreach to your deposit base

    It’s important for bankers to reach out to key external and internal stakeholders, including large depositors, regulators, and internal colleagues and leadership. With regard to depositors, bankers should ask them how well they are navigating the current economic climate, and how they are building resiliency into their business or personal financial picture. In addition, bankers should use this opportunity to offer reassurance, as well as assess emerging patterns they are seeing among their customer bases. In the words of Chris Stanley, Senior Director, Credit Acceptance, industry practice lead at Moody’s, in banking “listening is a superpower,” and by having a conversation rather than a monologue with customers, executives can come away with a better understanding of client needs and risk trends.

    Understand investment portfolio sensitivities

    Unrealized losses in securities portfolios are appropriately drawing significant market scrutiny, but asset liability management (ALM) strategies need nuance beyond this loss of value. The acute phase of the current market dynamics will eventually dissipate, but that doesn’t mean that the need for balance sheet risk management will go away. The collapse of Silicon Valley Bank and other recent failures was largely a “phenomenon of assurance.” Bankers must strive to demonstrate to all stakeholders that they have a resilient and robust balance sheet that can withstand even the most severe market pressures.

    To manage interest rate risk and deploy liquidity effectively, it is important to understand your portfolio’s duration and cash flow sensitivity to multiple rate scenarios. Recent accounting changes simplify and diversify strategies that qualify for hedge treatment in comparison to the last rate cycle. CECL tools are an additional advantage, as they provide a multi-scenario view of interest rates, credit, and prepayment behavior that are critical inputs to hedging strategies and effectiveness.

    Revisit loan and deposit pricing

    Deposit betas (the portion of a change in the fed funds rate that is passed on to deposit rates) and lending spreads (lending rate minus deposit rate) are key levers for managing liquidity and profitability in a rising rate environment. As rates climbed over the past year, there was a flight to yield that has resulted in severe deposit outflows for many institutions. This in turn has impacted loan to deposit ratios, as well as net interest margin. As bankers attempt to navigate this challenging environment, it is critical to not view loan and deposit pricing in a vacuum; rather, it is more important than ever to have a unified pricing strategy. Organizations should analyze their current portfolios on both sides of the balance sheet and consider a variety of strategies from changing loan and deposit structures and terms, to packaging these products to help stabilize funding sources.

    Enhance customer onboarding capabilities

    Deposit flight to yield was widely reported throughout the current rate tightening cycle. In the wake of the recent bank failures, flight to quality is expected, adding volatility and stress to onboarding programs. Supporting new customers and meeting their expectations is business critical, but so is staying in compliance with the Bank Secrecy Act, US Patriot Act, the FinCEN CDD Rule, and all know your customer (KYC) requirements. Satisfying increasing compliance, due diligence and monitoring requirements at scale can challenge any program. Bankers should consider evolving current operations – with automation and robust data – to ensure the speed and volume of onboarding new clients will not deviate from current risk guidelines and regulatory obligations.

    Analyze credit behavior under multiple scenarios

    Rate uncertainty will naturally flow into credit strategies as well. Although delinquency and charge off ratios have remained relatively steady despite market softening, it’s important to consider multiple economic scenarios given the current enormous amount of uncertainty in terms of credit risk, interest rate risk and liquidity risk, which are all seemingly hitting at the same time. To this end, bankers should ensure their strategy properly considers changes in borrower behavior. Scenario analysis is needed to understand the effects of elevated rates on both liquidity (timing of cash flows, repricing of assets) and expected loss that may result if rate action produces broader market deterioration or recession.

    Click here to watch the webinar replay. 

    For more information on how Moody's is helping financial institutions with balance sheet management, please visit our ALM page to learn more about the offering