Loan Pricing Deals/Relationships Session 2. Agenda

Transcription

1 Loan Pricing Deals/Relationships Session 2 Thomas Farin President Farin & Associates, Inc tfarin@farin.com 1 Agenda Session 1 Inputs What We Need to Know Role of Benchmarks Four Models to Look at Profitability Spread to Benchmark Economic Value FTP ROE (RAROC) FTP ROA Adjusting loan pricing for risk and cost factors Session 2 Consumer Relationship Pricing Loan and Deposit Deposit and Deposit Funding CRE Deposits FHLB Blended Commercial R/E Case Commodity CRE Pricing Modifying Structure to Meet Customer Needs Effect of Deposit Relationship on Profitability 2 1

2 Situation Institution wants to develop a relationship pricing strategy on retail deposits. Goal is to give customers an additional 25 bp on CDs of they maintain adequate collected balances in a primary checking account product. Steps Model the CD without the incentive Model the CD with the incentive Put the CD into a relationship along with a checking product and experiment with checking balances needed to make the relationship profitable Month CD Current Rates Marginally profitable under three measures (can t calculate ROE) at 17.5 bp rate. 4 2

3 12 Month CD +25 bp Unprofitable under three measures (can t calculate ROE) at 42.5 bp rate. 5 Free Checking 0% Rate 6 3

4 Checking Account Cash Flows 12.72% Annual Decay Rate $10,000 x (12.72% / 12) = $ Checking Account Investment Benchmark 1 Mo Adv Rate IRR Adj Cash Flow matched FHLB Adv Rate Servicing Cost Benchmark Fee is a negative rate paid Spread to benchmark On a deposit you want your spread to benchmark to be negative as you want the all-in cost of the deposit to be less than your wholesale funding alternative 8 4

5 CD/Checking Relationship Hits same net income figure 9 Situation Institution wants to develop a relationship pricing strategy on a retail deposit providing a discount on a retail loan. Goal is to give customers an additional 25 bp on installment loans if they maintain adequate collected balances in a primary checking account product. Steps Model the loan without the incentive Model the loan with the incentive Put the loan into a relationship along with a checking product and experiment with checking balances needed to make the relationship profitable. 10 5

6 72 Month A Credit 3.65% Month A Credit 3.15% 12 6

7 72 Month A Credit 3.15% Plus Checking 13 Borrower Alumni Run Housing Corporation Owns Fraternity House Project: Tear Down and Rebuild Corporation Financials Owns Property Free & Clear, $900,000 in Cash Resources Land Worth $1.0 - $1.5 MM Financing $325K Second from National Fraternity $1.7 MM First From Local Institution LTV 40-45% Situation Project 42 Beds Should be fully rented in 1 st yr. Projecting 90% Occupancy after Project throws off positive cash flows after construction year with 5/25 at 5.5% Interest Rate Risk At Closing of Permanent Financing 18 Months Down the Road At Balloon Point Housing Corporation willing to pay rate premium to mitigate risk. 14 7

8 Bank Situation If interest rate risk is pushed off on borrower, has the potential to take credit risk back. Has the ability to mitigate IRR by: Loan Structure Deposit Funding FHLB Advances Hedging Tools Swaps, Caps, etc. Needs to understand the supply/demand implications on price. 15 How Supply/Demand Affects Price Price Rate, Fees Strong Institution Supply Weak Customer Demand Commodity Loan 5/15 or 5/20 Balloon CRE 16 8

9 How Supply/Demand Affects Price Price Rate, Fees Limited Bank Supply Relatively Strong Customer Demand Non-Commodity Loan 7/25 Forward Rate Guarantee 17 Deposit Funding Options CDs Can be laddered to match CRM cash flows Expensive Early withdrawal penalties inadequate to hold onto longer-term CDs when rates go up Non-Maturity Deposits Contract Immediately reprice and withdraw without penalty Actual behavior Sticky decay rates Pricing lags market rates Beta Well less than 100% of change in market rates 18 9

10 Consumer Checking Beta Backtest 19 Consumer Checking Beta Forecast Beta = month lag Are you willing to bet the bank on a core deposit study? 20 10

11 FHLB Funding Options Pros Can match virtually any cash flow structure typically found in CRE loans Can hedge prepayment risk Some FHLBs provide funding for forward commitments Can be used as part of a blended funding approach Cons You may not need the funding Requires collateral Uses liability based liquidity Cost Management/board may not like the idea of borrowing money 21 Note: Pricing is from 3/2012 Funded with deposits Fully amortizing 15 year CRE loan with 5 year prepayment option 22 11

12 5/20 Balloon 3.5% No Penalty 23 Borrower Cash Flow 5/20 Balloon Uses 5.5% Rate Unsure of rates in 18 months Occupancy drops to 90% Balloon in 5 Years Rate goes to 8% 24 12

13 5/25 Balloon 3.6% No Penalty 25 Borrower Cash Flow 5/25 Balloon Uses 5.6% Rate Unsure of rates in 18 months Amortization goes up to 300/240 Balloon in 5 Years Rate goes to 8% 26 13

14 7/25 Balloon 4.0% Partial Penalty 27 Borrower Cash Flow 7/25 Balloon Uses 6.0% Rate Unsure of rates in 18 months Amortization goes to 300/216 Balloon in 7 Years Rate goes to 8% 28 14

15 7/25 Balloon 15 Mo Forward - 29 Borrower Cash Flow 7/25 Balloon Financed the 1 Point Rate Set at 4.6% Balloon in 7 Years Rate goes to 8% 30 15

16 Add $100,000 Checking Relationship 31 Summary The economic value in a relationship is typically in the non-maturity deposits Addition of NMDs in a relationship enhance income, ROE, and economic value Giving the customer what he wants is typically more profitable than selling commodities. Creates win/win Often minimizes competition Thinking through and fully understanding your funding options is crucial in funding longer-term portfolio loans