This week we are revisiting a topic we last discussed in 2020: funding costs.  We sit down with Jeremy Lucas, Director of Balance Sheet Strategies for SouthState, to get his take on how community banks should be thinking about the recent rate hikes from a deposit perspective.

The views, information, or opinions expressed during this show are solely those of the participants involved and do not necessarily represent those of SouthState Bank and its employees. 

SouthState Bank, N.A. – Member FDIC

 

[Intro]: Helping community bankers grow themselves, their team, and their profits. This is The Community Bank Podcast.

Caleb Stevens: Well, hey everybody and welcome back to the Community Bank podcast. I’m Caleb Stevens. Thanks for joining the conversation today. I’m joined by Tom Fitzgerald, our director of Strategy and Research here at the correspondent division. Tom, how are you?

Tom Fitzgerald: Caleb? I’m doing fine.

Caleb Stevens: So, we sat down recently with Mr. Jeremy Lucas. He’s the head of Balance Sheet Strategies here at the bank, he’s also head of investor relations. I mean, I say we, Tom, you sat down with him and talked about funding, which is a show that we haven’t really done in a couple of years. I think Jeremy was on two years ago. And so, we caught him on the way down as far as rates go, and now we’re catching him on the way up. So, talk about this conversation you had with Jeremy.

Tom Fitzgerald: What a difference in environment when we, like you said, first talk to Jeremy. It was just rate zero and it looked like it was going to stay zero for a couple more years. And so, here we are today, the fed’s furiously raising rates, bankers are kind of, instead of being a wash with liquidity like they were a year ago. They’re now starting to have to kind of figure out how much do they have to participate that these rate increases in order to retain that liquidity. So, it becomes a much more challenging job now for Jeremy and those colleagues of doing a similar job in their own banks. So, he does have some interesting insights and some words of knowledge I think that all our listeners will be excited to hear.

Caleb Stevens: Good deal. Well, let’s go to that conversation right now.

Tom Fitzgerald: Jeremy, it’s great to have you back on the show. I think it was July of 2020 when you were last with us, which is like a lifetime ago, in this kind of economic environment. But anyway, glad to have you. Jeremy’s role at SouthState Bank is dealing with funding, which is a broad topic. So, why don’t you tell the listeners a little bit, Jeremy, about kind of what it is that you do for the bank?

Jeremy Lucas: Thanks, Tom. Thanks for having me back. And so, my title is Director of Investor Relations and Balance Sheet Strategies here at SouthState Bank, and I kind of have two primary responsibilities. My team and I. One is the balance sheet strategy side, as you mentioned. We deal with liquidity and funding strategies, and also deal with deposit pricing, which is a very timely topic right now. The other responsibility is investor relations, I deal with the investment community with our shareholders, potential investors, and the analysts who cover our stock. So, kind of from the high-level investor questions down in the weeds to how are we going to fund this, what are we going to price these deposits? Our group kind of runs the gamut and sees a lot of different… a lot of interesting things that go on in the bank.

Tom Fitzgerald: And SouthState Bank is what right now? About a $40 billion bank.

Jeremy Lucas: Yeah, about 46 billion assets.

Tom Fitzgerald: 46 billion.

Jeremy Lucas: 38 billion in deposits.

Tom Fitzgerald: Okay. So, obviously one of the larger banks, I think. Our listeners are probably more of the typical community bank size. So, you deal with a lot of issues that probably they don’t have to deal with. One thing, maybe investor relations like you talked about. But let’s kind of focus on right now kind of more of the funding cycle and where we are… obviously we’re now, the Fed is in the middle of a hiking cycle. They’ve kind of told us they’re going to be getting up to $450, $475, probably by the time they take a break. It’s getting funding is always about getting it as cheaply as you can. Obviously, when we were in that zero-rate environment, it was a lot easier than it is today. What are some of the ways you’re kind of employing to keep those costs as low as possible as we’re kind of working our way through the tail into the fed’s hikes?

Jeremy Lucas: Well, that’s a great question, Tom. I think it’s a timely conversation, a little over two years ago, we had significant liquidity banks across the industry had significant liquidity and we didn’t know how long it’s going to last, how long it’s going to be here, and now things have turned fast. I think that’s what we’re hearing is really the last quarter, how fast liquidity has turned. It’s a topic of conversation for should be for all banks across the industry. Everybody we’re talking to pure banks, the home loan bank, just investor question, and we get that question. But the balance sheets for our bank for across the industry, you know, adjusting to slowing somewhat negative deposit growth, rising interest rates, quantitative tightening, you got some loan growth, which appears to be slowing down a little bit.

So, how do you manage all these different aspects of the bank? And one thing is you want to talk about deposit beta, you want to keep your betas low, and your costs low, but you also want to keep those core deposit relationships. Um, and that’s kind what we’re focused on. We SouthState has a great core funding base, about 37% non-interest-bearing deposits. We have about a million different deposit accounts, about 800,000 of those are checking. And so, we want the lenders to feel comfortable going out, and if we have to use exception pricing, we do to keep the relationships, if customers are more rate sensitive, obviously that that’s harder to keep. But I think we’ve adjusted rates just like other banks, but I think you want to keep those core relationships and you might have to move pricing for them because they’re looking elsewhere as well. But that’s one of the key aspects that we’re focused on right now.

Tom Fitzgerald: And you talk about that exception pricing, and I imagine you give that authority sort of in a tiered fashion, I imagine where the branch manager may, has a level that they can go to. Is that kind of how it works?

Jeremy Lucas: That’s right. There are different levels that the field can use and we try to give them guidance, whether it’s the beta, whether it’s interest expense cost, whether it’s just the absolute rate, just try to give them guidance. And we look at a lot of peer data competitive analysis, and we come to that decision together of where should these be priced. If you need to do exception pricing, where should standard kind of tier rates, we call them board rates, where should those be priced? Should you have any type of specials out there? And we look at all that data, talk to the field, look at peer data and just kind of see, see where the market, we’ll see what the data’s telling us.

Tom Fitzgerald: And do you get like a daily or a weekly report on everything that was exception priced? Is that something you kind of keep an eye on?

Jeremy Lucas: We do, we look at it weekly, we look at deposits trends daily just given the volatility over the last several months, and we look at exception pricing probably weekly. And we’re getting a lot of those calls from bankers. We have alco quarterly, like most banks more often if needed, we just talk to the field, see what they’re hearing, see what they’re hearing from competitors, from clients, and that kind of gives us the frame of reference to kind of go and adjust as necessary.

Tom Fitzgerald: Okay. And it’s funny, I was talking to our AL manager, Billy Fielding, we do al processing for about 70 plus banks. And he was saying the second quarter was really too early to see any dramatic movement in deposit costs or liquidity changes. But he suspects third quarters we’re going to start to see some movements upward in those deposit costs. Is that kind of your experience as we worked our way through the quarter?

Jeremy Lucas: It is. If you think about it the first… I guess what people probably don’t, haven’t paid attention to is how fast things have moved. If you look at the last cycle. Our deposit made at SouthState was around 24%. It took about three years to get up to going to have $225 on the Fed funds rate. Fourth quarter of 15 through kind of fourth quarter of 18, we’ve moved that same amount in four and a half months, since the end of March. And so, March was a 25-basis point increase, May you had 50, and in mid-June, you had 75. And so, really until June it really wasn’t on most people’s radar, at 25, I think most people are used to a 25-basis point increase just from the past.

So, really mid-June was 75 and it’s kind of too late in the quarter to see any really impact. And now, in July and September, you’ve had two more 75 basis point increases, and that’s really starting to get people’s attention. I think deposit costs, what we’re hearing have increased across, the industry to pay deposits. Betas are going to be higher than some people think. But at SouthState we increased rates at the beginning of August, we have a couple of CD specials out there, and we have a money market special. So, I think it’s just the magnitude and how fast things have increased. I mean, really just in the last six months, like I said, the first couple increases I don’t think really had much attention, but once you start talking about it, once you’re seeing it, whether it’s mortgage rates on the news every day, that gets people’s attention and people start asking. I think you’re dealing with online banks as well who are paying two and a half percent or so. So, that’s another challenge that customers are going to here at SouthState, they put some deposits through our wealth group, some wealth strategies. So, we’ve seen a little bit of that as well. But I think just the magnitude and the pace of increases so far compared to the last cycle.

Tom Fitzgerald: And I think too when you sit here with a three, three, and a quarter funds rate, but we know it’s going up to four next month and then probably four 50 by year-end. I would imagine you’re trying to grab as much deposits at the levels we are today as you can at this point in knowing that the rate’s going to even, it’s going to go higher for the next several months.

Jeremy Lucas: There are core relationships we’re trying to protect. I think one thing and you’ve seen a little bit with stated rates going up at banks but just talking to the field, a lot of banks haven’t increased them through the quarter, but they’re using one-off pricing in exception pricing, so you might not get a chance to kind of match that rate for a customer. So, they’re coming to us and we’re adjusting is necessary, but there’s a lot of the kind of off-the-grid pricing that the banks are using where it’s not exactly stated or captured in some of the competitive data.

Tom Fitzgerald: Now, let’s shift gears a little bit and talk about wholesale funding from the traditional retail deposit. Home Loan Bank advances are a big source of that funding, also broker deposits. I know our desk kind of looks at least recently that they found broker deposits were a little bit cheaper, kind of on the shorter part of the curve, and advances kind of took over as you got further out on the maturity. Are you using a kind of a mix of that as well or you kind of leaning towards one versus the other right now?

Jeremy Lucas: Yeah. Right now, we have significant liquidity due to the more the merger with CenterState and SouthState a couple of years ago. We still have liquidity from that, but we are hearing that advances, were in the second quarter were very strong even going to the third quarter brokerage CDs as well. It’s been a very strong for both of those kind of the wholesale funding markets. But I think we’ve looked at our plan, whether it’s advances the Fed, Fed funds lines, things can turn and are turning quickly. So, where do you get the liquidity if you need it? But I think both of those brokered and federal home loan bank advances were, had a very strong, second and third quarters and most of that’s been on the short, short end one year and less. I think it’s probably four to four and a half percent for both of those. But one year and less is kind of where we’ve seen most of it, and I think advances, I think they hit a 20-year low, at the end of 21 and they came back very strong, and it’s not just insurance companies and other, it’s commercial banks that are borrowing the last couple quarters, So, we’re definitely seeing that across the industry.

Tom Fitzgerald: And that kind of takes me to the next question because, of liquidity, like you said early on with all the different stimulus programs and the PPP banks were just sort of a wash with liquidity for a year or so. And that’s like you said, that seems to have shifted, and that was my first question is are you seeing that too, we’ve talked a lot of our customers, and it has gone from a kind of a too much liquidity position to kind of struggling to keep enough around for loan demand and other sources. So, that must make the job of deposit retention that much more challenging to you. Is that the fact that liquidity is not like it was a year or two ago?

Jeremy Lucas: That’s right. I think deposits across the end bank industry declined about 370 billion in the second quarter. We’ve seen the Fed age eight data, we’ve seen it slowing again in this quarter, so in somewhat negative cases. But yeah, for SouthState, with the merger from the end of 19 through the end of 21, we increased our deposits by $10 billion. So, 38%, $10 billion throughout the pandemic, and it’s all kind of in lockstep with the Fed. The Fed increased their balance sheet, now they’re starting to offload some of that and you’re going to see that those deposits come off. So, I think that’s right. It’s all kind of pricing with the Fed.

Tom Fitzgerald: Wow. And that’s a good point. We didn’t really, you know, we talked about fed rate increases, but they’re also doing that quantitative tightening where I think it’s up to 90-something billion a month that they’re reducing from their balance sheet. And like you said, that’s liquidity basically just leaving the system. Because they’re just retiring those funds basically. And that’s going to continue, I think they got up to over $9 trillion in the Fed balance sheet and they want to get that back probably in the neighborhood of 5 trillion, which is sort of a little bit more than pre-pandemic. So, that’s $4 trillion that’s going to be coming out of the banking system in liquidity. So, I think that this whole issue of liquidity probably is going to be around for a while. Now, take out your crystal ball Jeremy, let’s take a look at kind of moving into the fourth quarter and in early next year. What do you see as the biggest challenges in opportunities? As well in the funding arena as we get through, like I said, get through the year-end, get the Fed funds rate up to their terminal rate right now, which they’re looking at $450, $475. So, where do you kind of see your funding, like I said, challenges and opportunities as we move through that period?

Jeremy Lucas: Yeah, and we’re spending a lot of time on this just looking at deposit outflows, looking at pricing, competitive analysis for SouthState we don’t necessarily want to be an outlier. We don’t want to be the highest, we don’t want to be the lowest, and I think probably most banks feel that way. You don’t want to… but you don’t want to be so low, you have to kind of catch up and move too fast. And then if the fed cuts, you got to cut immediately, we don’t want to be in that situation either. So, I think it is just taking a look at, kind of look at what the competitors are doing, talking to the lenders. What are they seeing on the street? What’s a good level you feel comfortable with? And I think also kind of dusting off your liquidity plan of how fast can you get wholesale funding. How fast can you get… how much can you get from the different areas because that could come quickly and just making sure you have a plan there.

Tom Fitzgerald: Right. Well, let me ask you too, this is kind of a question that you may not be able to answer, but you’re talking about trying to kind of really determine where those deposit outflows are going. There’s been a lot of talks that personal savings rates are really coming down from where they were in at the height of the pandemic and all those stimulus checks getting into their accounts. Do you see some of this liquidity draw down being that consumers are just dipping into that savings more and more? Is it going into loan demand kind of taking from it? Is it a combination of all things together?

Jeremy Lucas: Similar of a combination? I think with inflation being somewhat higher, savings are probably getting depleted a little bit. The savings rate some are just moving it to, whether it’s the online banks or different accounts to the market where you can get more money through treasuries or another avenue. But I think it’s kind of a combination of all those.

Tom Fitzgerald: Well, that’s… I think that’s going to like you said, it can going to be an issue that’s going to be with us for a while is the liquidity issue, and obviously, with the Fed funds rate continuing to move higher, as the Fed gets to that terminal rate in the next year, it’s going to be, I don’t envy in your job and both trying to keep deposit costs down and keep liquidity up. That seems to be… that’s going to be a very good difficult balancing act, I would say.

Jeremy Lucas: And I think part of it might be here for longer, right? So, higher rates for longer I think in your forecast you have a cut late next year, some even have in 24 before we’re seeing a cut. So, which is different than six months ago, a year ago, and how quickly things have moved, and the forecasting piece is hard I guess as you’re having to forecast this, but I think it’s going to be around a little bit longer. And even after the fed stops increasing rates people are going to deposit rates aren’t going to get cut immediately until the Fed starts cutting. So, I think that’ll be a challenge too. It’s just going to be a little bit higher for longer than people originally thought.

Tom Fitzgerald: And it’s even though the Fed has come out and said, $450, $475 is where we think we’re going to finish, but each previous forecast they’ve gone, or each forecast exceeding forecast has gone higher than the previous one. So, who’s to say when we get to December, they’re not out touting that five percent’s where we’re going to be? And there’s a recent forecast that came out from a noted economist who said he thinks 6% is where the Fed funds land. So, 23… even though we know 22 is a was a very challenging year and still is 23 could be just as challenging in a number of those regards as far as trying to keep deposit costs down and also trying to keep that liquidity where you want it. So, Jeremy, one last question for you. We’ve got lots of CEOs and CFOs listening that are trying to deal with these same issues on a smaller scale probably, but any advice to them as to what things you would recommend to them as to deposit retention and minimizing that cost of deposit retention? As we work through the, like I said, the tail end of these fed rate hikes.

Jeremy Lucas: Sure. Tom, one thing we’re seeing is deposit specials, whether it’s money market specials, saving specials, CDs, we’re seeing those across the board but I think we want to keep those core relationships, so you might have to special price for them. I mean, at the Fed you’re getting three 15 at the Fed. So, if you have to price something in the 2% range, you’re still making a positive spread. So, I think just maintaining corral relationships at the bank is very important. But also, if you need liquidity some type of CDs, some type of deposit special, we’re seeing that across the board as well, and it’s not just always on the stated rates or the board rates those could still be low, but maybe it’s just like I said, one-offs for special pricing.

Tom Fitzgerald: Jeremy, I want to thank you for your time today. This, like I said, we had you, two years ago when the environment was almost completely different. So, it was really good to get you back on to kind of see, what kind of situation the bank is in now with that liquidity and funding the funding arena itself. So, again, thank you for your time and your insight.

Jeremy Lucas: All right, well thanks, Tom.

 

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