For decades, the business of banking hummed along in a relatively straightforward manner. Financial institutions would take money in at one Rate in the form of deposits, lend money out at another (higher) rate in the form of loans, and turn a profit on the difference. 

In recent years, however, interest rates have reached historical lows and are forecast to remain here through 2023.  With an uncertain global economy, especially as the COVID-19 pandemic wears on, and risk-averse customers keeping cash reserves liquid, an overabundance of short-term deposits is creating challenges for banks the world over.  In addition to an over-abundance of deposits, banks are experiencing tight margins and reduced profits. According to the FDIC, profits have plummeted for banks of all sizes and margins have sunk to an all-time low. To put this into perspective, according to a recent article by Garnet Capital Advisors, net income for the banking industry plummeted 70 percent from the same time last year down to $18.78 billion—the lowest quarterly income in a decade. 

Furthermore, many consumers may be spreading their savings over multiple banking relationships. 

So, what’s a bank to do in such circumstances? How can banks motivate desirable customer behaviors in such a challenging environment?

Basic approaches to deposit pricing

According to “No room for error with deposit pricing,” a 2019 article in American Banker:

A bank’s ability to execute surgical pricing strategies on its deposit portfolio is one of the most potent competitive differentiators in the current interest rate environment.

However, despite the power of pricing to achieve meaningful competitive differentiation, we’ve seen a general lack of advanced deposit pricing techniques. For example, consider the following:

• Does your bank have a segment-driven deposit pricing strategy?
• What are your bank’s objectives for deposit pricing? Growth? Margin? Market share? Undefined?
• How does your pricing approach align with your bank’s value proposition?
• Are you overpaying on deposits?
• Are your product and pricing decisions based on data and analysis, rather than opinion?
• Do your product management team and Asset Liability Committee (ALCO) agree on pricing strategies and tactics?
• To what degree are your processes manual and spreadsheet-driven?
• Is your deposit pricing transparent to customers?

Effective pricing of retail deposits is essential to ensuring bank profitability, especially in a low-rate environment flush with deposits. A strategic approach is clearly required. But how do we create the necessary conditions to price deposits effectively? 

There are two key capabilities that are crucial to your retail deposit toolkit: pricing optimization and pricing execution.

Build a game plan: Pricing optimization

Do you understand the drivers for your customers’ banking behaviors? Do you understand pricing elasticity at the segment and customer level? Do you have a strong, data-driven rationale for the rates you offer? These questions are at the heart of a pricing optimization strategy. 

Pricing optimization platforms use analytics to determine optimal rates:

• Analyze customer behavior, transaction activity, competitors’ prices, deposit inflows/outflows, and more.
• Identify how customers respond to different pricing characteristics, including preferences and elasticities.
• Develop a demand curve to determine at what point a customer will take their savings or their whole relationship elsewhere for a better rate.
• Group customers into segments based on their deposit behavior.
• Anticipate the impact of price changes on profitability and balance levels before they are executed.
• Evaluate the overall effectiveness of the bank’s pricing actions.

And, as economies look beyond the COVID-19 pandemic, there is a strong need for banks to root any and all pricing strategies not only in customer sensitivities and motivations, but also to align with and support their specific financial goals. This kind of dynamic pricing requires real-time digital insights that provide front-line bankers with contextual information at their fingertips.

Generally speaking, there are three deposit-product segments, each with distinct behaviors around the elasticity of deposit pricing.

Segment 1: Episodic Rate Shoppers

These customers are strongly oriented to their current bank when maintaining balances, but shop market rates when deciding where to place new balances. The lack of rate sensitivity and persistence of episodic shoppers makes them much more valuable to the bank than their chronic rate shopping counterparts.

Segment 2: Chronic Rate Shoppers

These customers base their deposit decisions solely on price, choosing to park their money where they can receive the top rate. In addition, they actively shop when term balances mature and will pick up and leave when rates on liquid balances fall.

Segment 3: Convenience-Oriented Savers

These customers are strongly oriented toward their bank for all deposit decisions. Primarily looking for fair rates, they build and maintain long-term balances on the strength of factors other than price, such as relationships, convenience, customer experience, digital experience and service. They are not always responsive to rate-based offers but represent a good source of long-term funding.

Execute the game plan: Pricing governance

Now that pricing optimization has equipped you with a clear understanding of customers’ behaviors when it comes to deposit products, customer segmentation and the optimal rate for each segment, it’s time to make it happen. Unfortunately, this process is often a highly manual, spreadsheet-driven endeavor. 

With a product and pricing platform like Zafin’s, you can automate the execution of even the most complex rate strategy, using a rules-based governance layer to manage the execution of pricing rules. Best of all, you can consider all the products and services in each customer’s portfolio to make rate and fee decisions. Price is probably the most powerful lever to motivate beneficial banking behaviors, including card utilization, use of electronic channels, product cross-sales and up-sales, balance building, and more. 

To help illustrate how pricing governance/execution works, think of a deposit product as consisting of a series of interchangeable Lego blocks. Each Lego block represents a particular product attribute. 

Using Zafin’s product and pricing management platform, you can create as many Lego blocks as you need and combine them in different ways to create truly customized value propositions designed to appeal to customer segments and micro-segments, down to a segment of one. You can offer these customized deposit products and packages at the segment level all the way down to individual customers, executing flawlessly with full traceability. This level of flexibility and customization unlocks a whole new level of creativity around product, package and offer design. If your Product Managers can think of it, Zafin’s execution platform can bring it to life.

You may recall earlier that effective deposit rate management also utilizes another key lever – the customer’s entire product portfolio. Below, we outline a few examples of how to create and execute innovative approaches to driving beneficial banking behaviors using a pricing governance engine.

Conclusion

Product and price are two key levers to motivate beneficial banking behaviors in today’s challenging environment. Tailored pricing strategies can optimize rates, fees or both. Cross-product packaging and pricing across the full breadth of a customer’s banking relationship is a powerful tool for gaining share of wallet.

Pricing optimization and pricing execution are two separate but complementary efforts that work together to provide a holistic solution that helps banks manage risk and drive profitability.