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Jesse Brewer is a commercial real estate broker, property manager and Boone County Commissioner.
Today’s banking and interest rate environment are as volatile as ever. Depending on your situation, this news is either good news or bad.
Rising interest rates are not a concern for consumers not in the market for a new home, vehicle, investment real estate or other major purchase. In fact, you may be excited to take advantage of the attractive rates banks are offering customers on deposits.
However, if you’re seeking if a new loan, high rates may be holding you back or even pushing you out of the market altogether. In either situation, it is important to understand the relationship between banking deposits and their ability to make loans.
Banks use what is called a “deposit multiple” to determine how much they can lend at any one given time. The formula is complex, but to put it simply banks can only lend out a certain percentage of their deposits. This may vary from lender to lender, but a bank is considered fully lent out if they have loan assets that are equal to 94 percent of their deposits on hand.
Some more conservative banks will put self-imposed limits that are less than this, but typically from what I found that most banks hover between 80 and 90 percent.
This is important because as you have seen in the marketplace, banks are offering very enticing rates for Certificates of Deposits (CD’s), Money Market accounts and other savings tools. During the pandemic, Americans saved $2.6 trillion due to numerous factors including government spending and stimulus funds, higher wages and shutdowns that gave people fewer options to spend money.
Because banks were flush with deposits they were able to offer very low interest rates; they were practically giving away money. But today, this is a contributing factor to the hyper inflation we are seeing now – but that’s another topic for a future blog post.
Banks were pushing money out the door at low rates and they were able to bring in record level profits through origination and other lending fees. However, now that the deposits have been spent down banks are stuck with limited options to keep making loans while meeting the deposit multiplier rule.
There is a limit to the amount of money that Americans keep in banks. In 2021 the average American had $73,000 in savings, which excludes retirement assets. Today that number is estimated to be $65,000, meaning here is significantly less cash on hand. To attract depositors, we are seeing banks offering specials on interest rates, including some 5 percent and more, which are the highest rates we’ve seen in 15 or years.
When banks offer high yield interest rates they must make up for what they are paying depositors in the form of loan rates. Simply put, a bank cannot lend you money at 4 percent and then pay a depositor 5 percent interest rate, even if they are getting subsidized loans from the Fed to make loans – which is also another topic for another blog.
Most banks like to have a 2.5 percent to 3.5 percent margin – or spread – between what they are paying depositors and what they lend. This difference in rates as well as fees charged is what covers the banks’ overhead – salaries, facilities etc. – as well as their profitability for their stakeholders.
Jesse Brewer is a commercial real estate broker that specializes in apartment assets as well as a property manager. In addition to being a commercial real estate broker Jesse is also an elected Boone County Commissioner. Learn more at www.caprealtyco.com.