slike bài giảng quản trị ngân hàng chương 3 managing and pricing deposit services

Types of deposit accounts Transaction payment or demand deposits  Making payment on behalf of customers  One of the oldest services  Provider is required to honor any withdrawals im

William Chittenden edited and updated the PowerPoint slides for this edition.

MANAGING AND PRICING DEPOSIT SERVICES

Chapter 3

Key topics

• 1 Types of deposit accounts offered

• 2 The changing mix of deposits and deposit

costs

• 3 Pricing deposit services and deposit interest

rates

• 4 Conditional deposit pricing

• 5 Rules for deposit insurance coverage

• 6 Disclosure of deposit terms

• 7 Lifeline banking

12-2

Key issues depository institutions are faced with

1. Where can funds be raised at lowest possible

cost?

2. How can management ensure that there are

enough deposits to support lending and other

services the public demands?

12-3

Types of deposit accounts

 Transaction (payment or demand) deposits

 Making payment on behalf of customers

 One of the oldest services

 Provider is required to honor any withdrawals

immediately

 Non-transaction (savings or thrift) deposits

 Longer-term

 Higher interest rates than transaction deposits

 Generally less costly to process and manage

12-4

Transaction accounts

 Although the interest cost of transaction

accounts is very low, the non-interest costs can

be quite high

 Generally, low balance checking accounts are not profitable for banks due to the high cost of processing checks

Transaction accounts

 Most banks offer three different transaction accounts

 Demand deposits

 DDAs (Demand Deposit Accounts)

 Negotiable Order of Withdrawal

 Automatic Transfers from Savings

Types of transaction deposits

• Noninterest-bearing demand deposits

 Interest was prohibited by Glass-Steagall Act

 One of the most volatile and unpredictable

sources of funds

 Most deposits are held by business firms since

Regulation Q prohibits banks from paying explicit

interest on for-profit corporate checking accounts

12-7

Regulation Q: http://www.bankersonline.com/regs/217/217-3.html

Transaction accounts

Interest-bearing demand deposits with limited or no check-writing privileges

 Negotiable Orders of Withdrawal (NOW)- hybrid

savings instrument – pay interest

 ATS (Automatic Transfers) Accounts

each day to force a zero balance in the DDA account

 For-profit corporations are prohibited from owning

NOW and ATS accounts

Transaction accounts

 Money market deposit accounts

per month, of which only three can be checks

hold reserves against MMDAs

Non-transaction (savings or thrift) deposit

An account whose primary purpose is to

encourage the bank customer to save rather

than make payments

12-10

Non-transaction accounts

 Savings accounts: Have no fixed maturity

 Denomination from $5

 Withdrawal privileges are limited, but without prior notice

 Stable fund to banks with little interest rate sensitivity

 Low interest rate

 For individuals, non-profit organization, businesses,

governments (firms cannot put > $150,000 in saving

deposits)

 In form of

 Passbook savings account

 Statement savings account

Non-transaction accounts

 Time deposits (CD is most popular type): Have a specified maturity ranging from 7 days on up

 Large time deposits (Jumbo CDs):

 for corporation & wealthy individuals

 in negotiable form CDs of $100,000-plus

 Typically can be traded in the secondary market many times before reaching maturity

 Small time deposits (Jumbo CDs):

 Usually acquired by individuals

 nonnegotiable form CDs with smaller denomination

 Cannot be traded before reaching maturity

Popular types of CDs

•Bump-up CD – allows a depositor to switch to a

higher interest rate if market rates rise

•Step-up CD – permits periodic upward

adjustments in the promised interest rate

•Liquid CD – permits the depositor to withdraw

some or all of their funds without a withdrawal

penalty

12-13

Non-transaction accounts

 Retirement savings deposits

 Individual Retirement Account (IRA) - the

Economic Recovery Tax Act of1981

 Keogh Deposit – have tax benefits

 Roth IRA – The Tax Relief Act of 1997 allows

non-tax-deductible contributions

 Default Option Retirement Plans – The Pension

Protection Act of 2006

12-14

Non-transaction accounts

 Individual Retirement Accounts

tax-deferred investment up to $3,000 of earned

income

a 10% IRS penalty

long-term funding for banks

Interest rates on deposits depend on:

 The maturity of the deposit

 The size of the offering institution

 The risk of the offering institution

 Marketing philosophy and goals of the offering

institution

12-16

The changing composition of deposits in the US

12-17

* Saving deposits include MMDAs

Core deposits

A stable base of funds that is not highly

sensitive to movements in market interest rates

(low interest-rate elasticity) and which tend to

remain with the bank

12-18

Core deposits

low-yielding time & savings deposits.

immediately, their effective maturity spans over years

rate vulnerability

competition and better educated-customers.

12-19

Holders of deposits

 Private sector: individuals, partnership and

corporation (75%)

 State and local government (4%)

 Foreign governments, businesses, individuals, mostly in off-shore offices

 Other financial institutions (correspondent deposits)

Cost of deposits

 Checkable deposits (checking accounts, special

checkbook deposits and interest-bearing checking

accounts)

 Thrift deposits (money market accounts, time deposits and savings accounts)

 Business transaction accounts are more

profitable than personal checking accounts

 Deposits are determined by public preferences and competition

Cost and revenue accounting data for

deposit accounts at FirstBank

Unit Cost

Demand Savings Time Income

Interest income (estimated earnings credit) 2.6% 2.5% 3.0%

Noninterest income (monthly estimates per account)

Service charges $ 2.80 $ 0.44 $ 0.11 Penalty fees $ 4.32 $ 0.28 $ 0.27 Other $ 0.63 $ 0.16 $ 0.05

Total noninterestiIncome $ 7.75 $ 0.88 $ 0.42

Activity charges (unit costs per transaction)

Deposit—electronic $ 0.0089 $ 0.0502 $ 0.1650 Deposit—nonelectronic $ 0.2219 $ 0.7777 $ 3.1425 Withdrawal—electronic $ 0.1073 $ 0.4284 $ 0.5400 Withdrawal—nonelectronic $ 0.2188 $ 0.7777 $ 1.4933 Transit check deposited $ 0.1600 $ 0.5686

Transit check cashed $ 0.2562

On-us check cashed $ 0.2412

Official check issued $ 1.02

Monthly overhead expense costs

Monthly account maintenance (truncated) $ 2.42 $ 4.10 $ 1.99 Monthly account maintenance (nontruncated) $ 8.60

Net indirect expense $ 4.35 $ 1.81 $ 18.38

Miscellaneous expenses

Account opened $ 9.46 $ 33.63 $ 5.78 Account closed $ 5.67 $ 20.18 $ 3.38

Check 21 and substitute checks

institutions to electronically transfer check images

legal copy of the check

clearing

of sending bundles of checks

12-23

Substitute check authorized by Check 21

FDIC insurance coverage

Association Insurance Fund (SAIF)

(increased to $250,000 until year-end 2009 by the

Emergency Economic Stabilization Act of 2008) for

each account holder within the same bank (even if

different branches)

separately

12-25

Truth in Savings Act

 Consumers must be informed of the deposit terms

before they open a new account

 Depository institutions must disclose:

 Minimum balance to open

 Minimum to avoid fees

 How the balance is figured

 When interest begins to accrue

 Penalties for early withdrawal

 Options at maturity

 And the APY (average yields)

12-26

Pricing deposit-related services

 Banks need to pay high enough to attract

depositors

 Banks should avoid costly interest rate to protect

potential profit margin

 Banks are price takers, not price maker

 Banks must decide to pay market-determined

price to attract and hold depositors or lose funds

12-27

Pricing deposit-related services

Cost plus profit deposit pricing

interest rates paid on deposits – why?

competition for deposits

deposit-related services or below-cost pricing

1980 gradually phases out federal limits on deposit

Cost plus profit deposit pricing

+

Estimating Overhead Expense Allocated to the Deposit Function

+

Planned Profit from Each Service Unit

Sold

12-30

Deposit services are priced high enough to cover all

costs:

Historical average cost approach

Determines the bank’s cost of funds by looking

at the past It looks at what funds the bank has

raised to date and what those funds have cost

12-31

Calculating the average net cost of deposit

accounts

 Average historical cost of funds

 Measure of average unit borrowing costs for existing funds

 Average interest cost

 Calculated by dividing total interest expense

by the average dollar amount of liabilities outstanding

ratio)] Float

Ratio Reserve

(Required -

[1

x Balance Average

Income

t Noninteres -

Expense

t Noninteres Expense

Interest

s Liabilitie Bank

of Cost Net

Average







Calculating the average net cost of deposit

net cost of 3.31%

3.31%

12 15)

(1

-$5,515

$7.75 -

$20.69

$0

Deposit Demand

of Cost Net

Measuring the cost of funds

 Average historical cost of funds

 Many banks incorrectly use the average historical costs in their pricing decisions

 The primary problem with historical costs is that they provide no information as to whether future interest costs will rise or fall.

 Pricing decisions should be based on marginal

costs compared with marginal revenues

The marginal cost approach

Determine the bank’s cost of funds by looking at the

future What minimum rate of return is the bank going

to have to earn on any future loans and securities to

cover the cost of all new funds raised?

12-35

Using marginal cost to set interest rates

on deposits

Many financial analysts would argue that the added

cost (not weighted average cost) of bringing new

funds into the bank should be used to price

deposits.

12-36

Marginal cost rate

Marginal cost = Change in total cost

= (New interest rate x total funds raised at new rate) – (Old interest rate x total funds raised at old rate)

raised fund

Additional

cost

in total

Change rate

cost

Measuring the marginal cost rate

 Costs of independent sources of funds

 Example:

 Market interest rate is 2.5%

 Servicing costs are 4.1% of balances

 Acquisition costs are 1.0% of balances

 Deposit insurance costs are 0.25% of balances

 Net investable balance is 85% of the balance (10% required reserves and 5% float)

9.24%

0.0924 0.85

0.0025 0.01

0.041

0.025 Cost

Market penetration deposit pricing

The method of selling deposits that usually sets

low prices and fees initially to encourage

customers to open an account and then raises

prices and fees later on

12-39

Conditional pricing

 Schedule of fees were low if customer stayed

above some minimum balance - fees

conditional on how the account was used

 Conditional pricing based on one or more of the

Upscale target pricing

Bank aggressively goes after high-balance,

low-activity accounts Bank uses carefully

designed advertising to target established

business owners and managers and other high

income households

12-41

Relationship pricing

The bank prices deposits according to the number

of services purchased or used The customer

may be granted lower fees or have some fees

waived if two or more services are used

12-42

Basic or lifeline banking

Some people feel that all individuals are entitled

to a minimum level of financial services no

matter their income level

12-43

Monthly Income / Expenses Activity

Monthly Income / Expenses Activity

Monthly Income / Expenses

Total noninterest income $ 11.99 $ 9.75 $ 5.44

Total revenue $ 12.92 $ 18.25 $ 26.74

Deposit—electronic 1 $ 0.01 2 $ 0.02 2 $ 0.02 Deposit—nonelectronic 1 $ 0.22 3 $ 0.67 3 $ 0.67 Withdrawal—electronic 15 $ 1.61 12 $ 1.29 10 $ 1.07 Withdrawal—nonelectronic 3 $ 0.66 14 $ 3.06 8 $ 1.75 Transit check deposited 1 $ 0.16 2 $ 0.32 2 $ 0.32 Transit check cashed 1 $ 0.26 2 $ 0.51 2 $ 0.51 On-us checks cashed 2 $ 0.48 3 $ 0.72 3 $ 0.72 Official check issued $ - $ - $ -

Total activity expense $ 3.40 $ 6.59 $ 5.06

Monthly expenses

Monthly account maintenance (truncated) 1 $ 2.42 $ - $ - Monthly account maintenance (nontruncated) - $ - 1 $ 6.60 1 $ 6.60 Net indirect expense $ 4.35 $ 4.35 $ 4.35

Total reoccurring monthly expenses $ 6.77 $ 10.95 $ 10.95

Average interest cost 0.00% 0.00% 0.00% Average noninterest cost 28.53% 5.36% 1.95% Average noninterest income 33.66% 2.98% 0.66%

Average account balance $ 500 $ 4,589 $ 11,500 Required reserves 10% 10% 10% Float 5% 5% 5%

Questions & Problems

1 What are core deposits, and why are they so important

today?

2 How has the composition of deposits changed in recent

years? What are the consequences for the management and performance of depository institutions resulting from recent changes in deposit composition?

3 Describe the essential differences between the following

deposit pricing methods in use today: cost-plus pricing, conditional pricing, and relationship pricing.

4 Problem 1, 4, 5 and 6 (page 411-3)

William Chittenden edited and updated the PowerPoint slides for this edition.

MANAGING AND PRICING DEPOSIT SERVICES

Chapter 3