After 13 years of historically low federal funds rates and five rounds of quantitative easing ("QE") that have swelled the Federal Reserve's balance sheet and injected trillions of dollars into the economy, deposits at banks have also climbed. Now, the Federal Reserve has started pulling money out of the economy as it struggles to tame inflation.
Evercore ISI analysts headed by Glenn Schorr suspect that Wall Street analysts are underestimating the effect that the quantitative tightening ("QT") will have on bank deposits in the next two years.
"While continued macro/market uncertainty is likely to insulate against a major runoff in deposits, $3T of Fed QT & rates moving higher have us feeling that Street deposit expectations could be a bit high," they wrote in a recent note to clients.
The Evercore ISI analysts see trust banks as most vulnerable to outflows exceeding expectations due to their higher levels of institutional and non-operating deposits. That would include State Street (NYSE:STT), Bank of New York Mellon (NYSE:BK), and Northern Trust (NASDAQ:NTRS).
Universal and trust: The Street consensus expects universal and trust banks' deposit levels to fall ~3% from Q2 2022 to Q4 2023, with BNY Mellon (BK) and Northern Trust (NTRS) expected to contract the most, and Citigroup (NYSE:C) and Bank of America (NYSE:BAC) exhibiting the most resiliency. That's mostly in line with the Evercore ISI analysts' expectations.
The consensus estimate, though, is expecting a potential easing of monetary policy in 2024 to result in a rebound in deposits, with the upshot being relatively flat average deposit levels from Q2 2022 to Q4 2024. Here's where the Evercore ISI analysts disagree. "Can that really happen if the Fed is draining $3T in QT?", they wrote.
Regional banks: For the Q2 2022 to Q4 2024 period, the consensus expects average deposit growth of ~ 3% for regionals, with stable deposit levels from Q2 2022 to Q4 2023. For that seven-quarter stretch, the Street expects Comerica (NYSE:CMA), -6%, and Regions Financial (NYSE:RF), -4%, to contract the most and First Republic (NYSE:FRC) to continue solid growth, up 18%. In the following four quarters, deposit growth is expected to pick up, with First Republic, +13%, and SVB Financial (NASDAQ:SIVB), +8%. benefiting the most.
Potential downside: Non-interest bearing ("NIB") deposits bear some scrutiny, according to the analysts' note. Balance sheets at universal and trust banks both benefited significantly from the increased central bank liquidity and lower rates, "as consumers and institutions have had very few alternatives to park excess cash," they said. The proportion of NIB in the deposit mix remains elevated at 28% in Q2 2022 vs. 23% in 2019. Bank of America (BAC) saw the biggest increase in NIB mix, while Citi (C) saw the smallest change. "Universal and trust banks could see ~5% deposit runoff on average, with BAC the most exposed at ~10%," the analysts said. A potential reversion to more normal levels of NIB represents downside to current consensus deposit and net interest income growth. They see Bank of America (BAC) most at risk.
Regional banks, too, saw NIB deposits increase since the pandemic with NIB balances at 39% of total deposits vs. 33% on average in 2019. With the impact of lower money supply and rising rates providing more attractive alternative investments, regional banks face a similar risk on deposit pressure, they reason. "All else equal, if regional bank NIB mix was to revert to prepandemic levels, the group could see ~7% deposit runoff, on average with First Horizon (NYSE:FHN), Fifth Third Bancorp (NASDAQ:FITB), and Synovus (NYSE:SNV) potentially a bit more exposed than others."
However, the analysts don't expect declines of the magnitude to occur as banks could further hike earnings credit rates to incentivize commercial depositors to maintain transaction balances.
Summing it up: "All in, while the ultimate implications of QT remain be seen, we think current assumptions around Bank and Trust Bank balance sheets are a bit too conservative and the effects of more restrictive monetary policy could last more than 12-18 months," they concluded.