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Liquidity & Capital Management
David Hart
SunTrust Bank
May 11, 2017
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Past and Current Events (2007-2017)
• 2007-2010: The Great Recession
• 2012 – 2014: Bank financial performance metrics show improvement
– Profitability, Capital Adequacy, Liquidity, and Asset Quality
• Significant regulatory and legislative changes are in progress,
particularly with regards to Capital Adequacy of banks. Key
legislation includes Dodd-Frank, Volcker Rule, Basel III and others
• 2015 - 2017: Top line revenue growth/expense management is a major
focus/challenge
• Oil price volatility – direct and indirect impact of energy industry
• Real estate markets rebounding
• Technology – Mobile capabilities, Cyber-Security, non-traditional
competition (FinTech players, BitCoin, etc.)
• 2017 – Trump era begins
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Liquidity and Capital Management
Impact on Stakeholders
• Shareholders
• Regulators
• Depositors
• Borrowers
• Employees
• Community
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Liquidity and Capital Management
A Complex Continuum
Credit Risk
Interest
Rate Risk
Concentration
Risk
Earnings
Risk
Regulatory
Risk
Strategic Planning
ALCO Planning
Cyber-Security/
OPS Risk
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Liquidity Management
Key Issues
• Understand the impact of changes in the
balance sheet over time.
• Identify behavior patterns and volatility
of key accounts.
• Forecast sources and uses of funds. In
essence, an exercise in cash budgeting.
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Sources and Uses of Funds
An Accounting Perspective
Double entry bookkeeping
prescribes keeping the equation
in balance.
How do changes in these accounts
impact liquidity?
Assets = Liabilities + NW
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Sources and Uses of Funds
Relationship to the Balance Sheet
SOURCES USES
Assets
Liabilities
Net Worth
Assets
Liabilities
Net Worth
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Sources and Uses of Funds
Key Areas to Emphasize
SOURCES USES
• FF Purchased
• Repos
• Loan Payoffs
• Sell Securities
• Deposit Increase
• Profits
• Issue Debt
• Issue Equity
• FF Sold
• Reverse Repos
• Loan Proceeds
• Purchase Securities
• Deposit Runoff
• Losses
• Repay Debt
• Dividends
• Stock Buyback
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Refer to SunTrust Banks, Inc. Annual Report
Balance Sheet
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The Key to Sustained High Performance
A Balancing of the Risks
Credit Risk
Liquidity Risk Interest Rate Risk
Define your risk management profile!
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Liquidity Planning
Managing the Liquidity Gap
• Short-term horizon
– Maintain required reserves over a two week
maintenance period
– Invest or borrow for surplus/shortfall
• Long-term horizon
– Forecast liquidity surplus/shortfall on a
monthly basis for the upcoming year
– How will you manage liquidity needs?
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Liquidity Planning
Overview of Reserve Requirements
• Regulation D
– Implemented by the Federal Reserve to maintain
liquidity and confidence in the banking industry
– Reserve requirements are the amount of funds that
a depository institution must hold in reserve
against specific deposit liabilities
• Current Reserve Requirements - 2017
Tranche
“Exempt”
“Low Reserve”
“Normal Reserve”
Deposit Levels
Up to $15.5MM
>$15.5MM<$115.1MM
Over $115.1MM
Reserve Requirement
0%
3%
10%
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• Deficit/Surplus Forecasting
Liquidity Planning
Liquidity Gap Management
Sources
Total
Uses
Total
Surplus/Shortfall
0 - 30 Days 31 - 90 Days Over 90 Days
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Liquidity Management
Liquidity through Borrowing
• Whether short-term or long-term, access to various financing vehicles is dependent on maintaining solid financial performance. Key areas of emphasis include:
– Liquidity
– Capital Adequacy
– Asset Quality
– Profitability
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Liquidity through Borrowing
Key Measurements of Liquidity
The ability to meet short-term obligations
Pledged Securities Total Securities
Back-up Lines of Credit
100+ Time Deposits Total Deposits
Loan Deposit
MV of Securities BV of Securities
Typical Range
< 50%
< 20%
60% - 90%
95% - 105%
As needed
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Liquidity through Borrowing
Key Measurements of Capital Adequacy
To provide a sufficient buffer against loss to ensure soundness
Tier I Capital
Average Assets
Total Capital
Risk-Based Assets
“Adequate”
4%
4%
8%
“Well”
5%
6%
10%
Tier I Capital
Risk-Based Assets
Note: Capital adequacy guidelines are under regulatory review..
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Liquidity through Borrowing
Key Measurements of Asset Quality
To manage the balance between risk and return
Typical Range
.75% - 2.00%
100% - 200%
1.25% - 2.50%
.25% - 1.00%
.25% - .75%
NPL + OREO Loans + OREO
90 + Day Del.
Total Loans
LLR NPL
LLR Total Loans
Net COs Avg Loans
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Liquidity through Borrowing
Key Measurements of Profitability
To maintain solvency and continue as a viable, on-going entity.
ROE
ROA
NIM
Non-interest Income
Non-interest Expense
Typical Range
12.0% - 20.0%
.75% - 1.50%
3.00% - 5.00%
Various
Various
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Capital Planning
Key Issues
• What compromises bank capital and why
is it important?
• What is the magic number or optimal
capital position for a bank?
• How does a bank manage its capital
position over time?
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Bank Capital Definitions
• A Balance Sheet figure
• Similarities to traditional Net Worth
• Total capital equals Tier 1 + Tier 2
Tier 1
(Core) Capital
• Common stock
• Some preferred
• Paid-in Capital
• Retained Earnings
• Other
Tier 2
(Supplemental) Capital
• ALLL
• Hybrid Capital
• Other
Tangible Common Equity (TCE) = Total equity – intangible
assets – goodwill – preferred stock
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Bank Capital
Primary Functions
• Buffer against losses
• Liquidity enhancement
• Impacts growth and risk-taking
– Internal, sustainable growth
– Risk-based concepts
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Bank Capital
Impact of Size
• Lending constraints
– Legal limits and house
limits
– Participations
• Returns to shareholders
• Impact on asset growth
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BANK BALANCE SHEET
Assets
Cash
Securities
Loans
PP&E
Liabilities
Deposits
Other Obligations
Net Worth (5-10%)
MANUFACTURER BALANCE SHEET
Assets
Cash
A/R
Inventory
PP&E
Liabilities
Accounts Payable
Other Debt
Long-term Debt
Net Worth (30 - 50%)
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Return on Equity
How does Leverage Fit In?
ROE = ROA x EM = Net Income Assets
Assets Equity
x
(Profitability) (Leverage)
ROA = PM x AU = Net Income
Total Rev.
Total Rev. Assets
x
(Profitability) (Efficiency)
ROE = PM x AU x EM = x x
(Profitability) (Efficiency) (Leverage)
Net Income Total Rev.
Total Rev. Assets
Assets Equity
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$5,000 $7,000 Net Worth (Equity)
$8,000 $9,000 Total Revenues
$1,000 $1,000 Non-interest Income
$7,000 $8,000 Interest Income
$715 $1,000 Net Income
$100,000 $100,000 Total Assets
BANK B BANK A (000’s)
ROE = PM x AU x EM
PM x AU x EM = ROE
Bank A’s ROE =
Bank B’s ROE =
(Profitability) (Efficiency) (Leverage)
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Bank Capital
Risk-Based Concepts
• To require more capital for greater risk
– $100MM in T-Bills vs $100MM in CRE
• To capture off-balance sheet risk
• To limit the impact of “quasi” capital
relative to total capital
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Bank Capital
Risk-Based Requirements
• On-balance sheet activities – 4 Buckets of Risk
Step 1: Categorize Asset
– Category 1: 0%
– Category 2: 20%
– Category 3: 50%
– Category 4: 100%
Step 2: Asset x Risk% x Required Capital %
• Off-balance sheet activities
Step 1: Convert the face amount of the off-balance sheet item to an on-balance sheet credit equivalent amount (CEA)
Step 2: Categorize the resulting CEA into its proper risk category as discussed above
Step 3: Converted Asset x Risk % x Required Capital %
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Bank Capital
Key Concepts
• Banks with “greater risk” assets are now
differentiated with risk-based guidelines
• Off-balance sheet items are captured
• Limitations
– Total Tier 2 is limited to 100% of Tier 1
– ALLL in Tier 2 is limited to 1.25% of total
risk assets
– Must maintain a “leverage” ratio
– Certain intangibles which are allowed are
limited to 25% of Tier 1
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Bank Asset Risk Weights
Loans:
Installment Loans 100%
C&I 100%
Residential Loans 50%
Investments:
U.S.Treasuries 0%
U.S.Agencies 20%
Agency CMO 20%
G.O. Municipals 20%
Revenue Municipals 50%
Money Mkt Securities 20%
Other Assets:
Cash and Due From 0%
Fed Funds Sold 20%
Premises and Equipment 100%
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Refer to Hard Copy
Risk Adjusted Exercise
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Refer to Hard Copy
Risk Adjusted Exercise
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Liquidity & Capital Planning
Consequences of Poor Management
• Regulatory Implications – Forced to submit plans
– Disallow Acquisitions/branches
– Insurance premium issues
• Financial Implications – Higher interest expense
– Volatility of earnings
– Lower stock price
– Less expensive target
– Potential failure
• Other implications – Employees
– Community
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