Before they failed, Silicon Valley Bank, Signature Bank and First Republic Bank were highly profitable and well known for using a relationship banking approach to attract and retain customers. But their failures demonstrate that this approach can create serious risks for an institution in an environment where technology makes it easier for customers to move money.
Peter Serene, a managing director at bank data firm Curinos, says the risks that stem from relationship banking are layered.
“Relationship banking was not the problem. The problem was the concentration,” he says. “[T]he banks that failed were very concentrated. Relationship banking is still good but you can’t be single threaded on a particular segment.”
Broadly defined, relationship banking is an approach where bankers establish long-duration affiliations with their customers, often paired with high customer service. The hope is that this closeness means customers will bring their lending, payments and deposit accounts to the bank and may be less sensitive to price.
“From the bank’s perspective, you have a pretty stable deposit base and stable, repeat customers who come back to you. It’s an opportunity to cross sell and upsell new products and offerings as the customer’s needs change throughout their life cycle,” says Elena Shtern, customer advisory lead for financial regulatory territory at SAS.
Shtern points out that relationship banking was a “big differentiator” for the three banks that failed this spring. Silicon Valley Bank served the innovation economy and First Republic Bank catered to the wealthy. Signature Bank focused on New York real estate firms; its approach paid off until 2023, given its no. 10 tie in Bank Director’s RankingBanking based on 2022 results for institutions with more than $50 billion in assets.
But relationship banking at Signature led to large deposit accounts, according to the Federal Deposit Insurance Corp.’s postmortem report. Uninsured deposit accounts totaled 90% of total deposits: around 60 clients had balances above $250 million and another 290 clients had balances above $50 million. The FDIC wrote that examiners flagged the potential volatility of an uninsured deposit concentration. Management responded that they “believed the deposit base was considerably stable” but the FDIC said those assumptions weren’t well documented or substantiated.
Relationship banking also couldn’t assuage customer concerns about bank solvency — and digital banking technology has made it easier for funds to move. Serene says the large accounts, which were often non-operational corporate funds, “moved faster than models predicted” they would in a stressed liquidity environment. He points out that under the liquidity coverage ratio rules, these types of accounts have an assumed runoff of 40% over 30 days.
“In the case of the banks that failed, the numbers were more like 40% of [those] deposits left in 30 hours. There’s some real rethinking about behaviors,” he says. “Evolution in technology has made a difference.”
But technology doesn’t have to undermine a relationship banking approach. Sioux Center, Iowa-based American State Bank is building and strengthening relationships with customers and their children through its partnership with The Postage, a fintech that helps families organize their finances far ahead of transitions such as a move into care facilities or death, create wills and leave memories and messages for each other.
Tamra Van Kalsbeek, the bank’s digital banking officer, sees The Postage as a way the bank cares for its customers, while gathering deposits and connecting with different family members. It also allows the bank to attract business without competing on price. She says the bank’s “spirit club” of customers aged 55 and older were “really receptive” to the product. It has been a way for the customer or the bank to start a conversation with an executor of an estate or will.
Going forward, institutions that use a relationship banking approach may want to closely examine naturally occurring concentrations and diversify their customers and the types of accounts they have, Shtern says. Diversification among clients can increase bank stability, since it offsets the negative impact one group of customers might have. Martin Zorn, managing director, risk research and quantitative solutions at SAS Institute, adds that directors should ensure that executives are addressing concentration risks through close monitoring, hedges and increased liquidity. Boards should also press management on the inputs and assumptions that populate risk management models, ensure that they understand the answers and hold management accountable to addressing these risks.
“How do you manage your models? What is that governance around the model management? How do you stress test, back test or validate your models?” Zorn says. “Depending on your strategy, you may not be able to avoid concentration. There’s nothing wrong with taking more risk if you have the appropriate mitigants in place.”
Governance issues like these will be covered during Bank Director’s Bank Board Training Forum in Nashville Sept. 11-12, 2023.