How This Bank Maintained Its Deposits Outside of Silicon Valley

It's important to keep in mind that there are still some conservative bankers out there among all the hand-wringing & headlines about the current banking crisis. As Silicon Valley Bank was stockpiling the risky mortgage backed securities that would eventually lead to its demise, other institutions were more prudent with the money that their depositors had entrusted to them.

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One of them was M&T Bank Corp., which has headquarters on the other side of the nation in Buffalo, New York, and is roughly the same size as Silicon Valley. Its chief financial officer, Darren King, said to investors at a conference in November of last year that "we always had a view that this really [deposits] was likely going to flow out at the rate it came in, and the problem was how long it would take for that to happen."

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The bank's liquidity management was impacted by this viewpoint. The only area to actually find a yield is in mortgage-backed securities, so we looked at the rates we could get there or by keeping the portfolio reasonably small, according to King. We kept trying the arithmetic, but we were unable to understand mortgage-backed securities at all.

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King and his colleagues decided to wait until interest rates gave a better return before investing extra savings. Around a quarter of the bank's balance sheet was cash at the end of 2021. They then redeployed money into securities over the course of 2022 in order to profit from higher interest rates.

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The team had a $25 billion portfolio by year's end, but they took care to maintain the "held-to-maturity" portion, which they were unable to touch when bond prices fell, in check. Less than 7% of the bank's assets were held to maturity at the end of 2022, as opposed to 43% at Silicon Valley Bank.

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I warned about the danger of holding too much income in held-to-maturity securities in October. How is money returned to depositors who request it? " I inquired. "Held-to-maturity portfolios' level of locked-in liquidity could be problematic."

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Many were astonished by how quickly depositors demanded their money back, however in Silicon Valley's instance it was a sign that the company had suddenly realized its approach was flawed. Ironically, the last week's events increased the value of bank-held securities by lowering bond yields. The industry's mark-to-market securities losses of $620 billion by the end of 2022 are probably now considerably smaller.

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The value of deposits has also been impacted severely by recent events, though. Although deposits are not required by accounting standards to be valued in the same manner as securities, this does not imply that they are worthless. Banks are able to make money off the invested capital they can get on those funds by paying deposits at a rate that is lower than the market rate. The return was modest in the low-rate climate, but it had begun to pick up. In contrast to the benchmark Fedrates of about 4%, the industry paid about 1% on deposits in the last quarter of last year.

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Nevertheless, as attention is drawn to both the safety and the potential return, deposits are fleeing the system. Banks do not assign a fair market value to their account bases, unlike investment securities, despite the fact that historically they have been highly valued. When SunTrust Banks Inc., which had $162 billion in deposits, merged with BB&T Corp. to establish Truist Financial Corp. in 2019, a valuation of $4.5 billion was given to the deposit intangible, which is what acquiring banks refer to as the "core deposit intangible" in a merger situation.

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The deposit valuation made by Truist was based on a 10-year deposit life. It might still be true for the majority of deposits, though some are proving to be more erratic. Deposit valuations may need to be revised if deposit velocity continues to be higher following this incident. A more important topic is what the current crisis means again for fair value of deposits while emphasis is focused on the fair value of banks' securities holdings.

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M&T Bank ought to be alright. At the end of the previous year, it had one of the lowest cost of deposits in the sector (0.46% vs. 1.17% at Silicon Valley Bank). Yet, as Chairman and CEO Rene Jones said in his most recent shareholder letter, "The consequences of the abrupt shift in fiscal policy on the balance sheets of banks and the business is still being grasped." This is true for both deposits and assets.