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Commercial Calling | Corporate Liquidity Will Be a Key Issue in 2019

A financial snapshot of corporate customers

Businesses now hold more than $4 trillion of liquidity in the U.S. With rates rising and the slope of the yield curve shifting, stakes are high for banks.

The risks are clear. Some banks are currently overpaying for deposits and watching spreads narrow. Others are underpaying for deposits and watching balances — and perhaps entire relationships — leave the bank.

The challenge for banks in 2019 will be to get it right. That means gaining a deeper understanding of corporate liquidity, listening to corporate CFOs and treasurers and figuring out where it all fits in the context of our dynamic capital markets. Bankers must understand the nuance or risk destroying shareholder value.

Our recent Quarterly Corporate Cash Briefing revealed that U.S. corporate liquidity peaked at $4.034 trillion in 2017’s fourth quarter and declined by $80 billion in the first half of 2018. (See Figure 1). Liquidity fell by $130 billion for medium and large businesses, but it rose by $50 billion for small businesses.



Large and medium-sized companies account for two-thirds of business liquidity in the U.S., or $2,5 trillion. Roughly 40% of it is held as checkable bank deposits and receiving earnings credits, while 15% is in time deposits, presumably yielding a competitive return. The remaining 45% is invested in short-term money market instruments (money funds, government debt and repo) that sit outside the banking system.

The decline in liquidity occurred despite robust earnings, overseas cash repatriation, debt issuance and increased bank loans that weren’t enough to offset $400 billion of share buybacks. (The pace of buybacks has decreased by 75% since the beginning of the fourth quarter, however.)

Another risk for banks is that earnings credit rates lag U.S. treasuries by a widening margin, now at 115 basis points (bp), according to our NDepth bank-fee analysis. (See Figure 2). While that has generated nice (if short-lived) spread income for banks, demand deposits fell by $71 billion for large and medium companies.



A deep dive into our NDepth database reveals a very wide range of earnings credit rates (ECRs), from a low of just 1 bp to a high of 210 bp, signaling either a very high degree of negotiability or a breakdown in pricing discipline. Clearly some banks are being reactive in their attempts to hold onto DDA balances while others are experimenting with other rate strategies. Regional banks appear to be paying higher ECRs than national players.

In addition, many corporate clients are chasing higher yields by tip-toeing back into prime money-market funds. (These funds lost some of their appeal after an SEC rule change in 2016.) Low ECR DDA balances will be threatened if this trend picks up steam.

Corporate debt increased by $350 billion during the first half of 2018, net of mortgages. Banks only held $30 billion of that amount, however, with the rest going to funds and other investors. In 2019, corporations are expected to continue to search for opportunities to shed floating rate debt for fixed rate debt. We’ve seen clients willing to lock in fixed rates at up to 150 bp above their existing floating rate.

There are myriad other issues that are weighing on corporate financial officers. Most of them relate to capital structure decisions and will impact their bank activity in some way. The Libor phase-out will prompt companies to re-write their contracts. Uncertainty around Brexit may prompt corporate financial officers to hold more cash. The continued unwinding of the Federal Reserve’s balance sheet may steepen the yield curve. And U.S. tax reform, which boosted after-tax cash flows by $80 to $100 billion in 2018, may be re-visited in the new Congress.

Bankers must prepare for these issues in a number of ways.

First, banks should stem the loss of balances by selectively re-pricing ECRs. Average ECRs on more than $1 trillion of checkable deposits now stand more than 115 bp below Fed funds. To maintain that wide spread, banks need to segment their customers, tune their elasticity models and develop creative deposit propositions.

Our data show that for many banks, ECRs tend to fall in a wide range — even among customers with the same balance levels and in the same industry. When that happens, banks lose a powerful lever that could enhance profitability.

Second, banks must also control exception pricing appropriately.

Lastly, banks can help customers mitigate risks that could accompany the Fed’s rate increases and the unwinding of its balance sheet. Companies believe that the unwind will be orderly, in which case the transition from floating to fixed can happen at a measured pace. But this might not be the case, so banks need to manage that shift rather than just wait to see if the Fed changes its strategy.

By being proactive, banks can strengthen existing relationships with their corporate clients. That can only be a positive strategy in the coming year.


Anthony J. Carfang
Managing Director, Chicago
tony_carfang@treasurystrategies.com

For more information, contact Novantas Marketing

+1 (212) 953-4444


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Commercial Calling | Corporate Liquidity Will Be a Key Issue in 2019

Businesses now hold more than $4 trillion of liquidity in the U.S. With rates rising and the slope of the yield curve shifting, stakes are high for banks.