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Amortizing Advances and Core Deposits: Funding Auto Loans

September 07, 2016

Although U.S. auto sales missed estimates in July, actual sales were up 1.1 percent at auto dealers. This is good news for members eager to portfolio auto loans. This type of loan is a good alternative to short-term investments in the current rate environment. The average life of 2.3 years is reasonably short and almost one quarter of the principal is returned during the first year. This enables members to reinvest this cash flow in a higher rate environment should interest rates increase in the future.

We recently worked with a member whose institution was experiencing strong demand for five-year auto loans at a rate of 2.49 percent. They had some excess liquidity and were interested in looking at using a 50/50 mix of FHLB Boston Amortizing Advances and their own deposits to hedge interest-rate risk. The cost of deposits will, of course, vary as interest rates change. A good core deposit study will produce pricing betas, decay rates, and a breakout of surge/non-surge balances on these non-maturity deposits. Armed with that information, you can confidently use some of your low-beta, non-surge balances to fund these loans.

We decided to use 20 percent of a two-year Amortizing Advance and 30 percent of a three-year Amortizing Advance along with 50 percent of the member's deposits. The advances had a weighted average life of 16 months and an initial cost of 1.13 percent. The deposits had an average cost of 50 basis points and a pricing beta of 0.3. The initial cost of funds was 81 basis points and the initial spread was 1.68 percent. Over time, the mix of the funding becomes more heavily weighted toward the deposits. The cost of funds, through five years (given no change in rates), actually falls 11 basis points to 70 basis points. As rates increase, the low-beta deposits react slowly to changes in interest rates. If interest rates increase 300 basis points, the cost of funds only increases to 1.16 percent or about 15 percent of the change in market interest rates. The results of this funding solution can be seen in the table below.

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Are you interested in examining funding alternatives for balance sheet growth? Even if you don't have excess liquidity as in the above example, we can model funding ideas for you using solely FHLB Boston term advances. Please contact me at kevin.martin@fhlbboston.com or Office Phone icon 617-292-9644 to see what can work for your institution.

 

 

 
 
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