June 3, 2011

CDARS are Deposits to the Core

Banks fund loans by utilizing deposits.  Most deposits come from core relationships with customers.  Other deposits are obtained through brokers.

Regulators look at how banks procure their deposits and how much of the deposit base is made up of non-core deposits.  The use of brokered deposits by problem institutions has sometimes been associated with abuses.  Some assert that the presence of a large amount of brokered deposits may contribute to a bank’s failure, because, the argument goes, this type of deposit is a funding source that supports unsound or rapid expansion of loan and investment portfolios.

Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act, the FDIC is studying core deposits and brokered deposits. 

I urge the FDIC to update the definitions of core deposits and brokered deposits to accurately reflect today’s marketplace while respecting the need for soundness and safety.  Deposits are now made and acquired in a way that utilizes technological advances; definitions from two decades ago no longer reflect current realities.  Many intermediaries are considered “deposit brokers”, a term which implies a degree of risk that is unwelcomed.  That is not always the case from our experience. 

The current limit on FDIC coverage of $250,000 hurts a community bank’s ability to bring in and retain larger relationship-based deposits.  The cap inhibits individuals and entities from putting more of their cash into banks due to perceived risk.  One solution that has been created in the marketplace is the Certificates of Deposit Account Registry Service (“CDARS”) offered by Promontory Interfinancial Network.

The CDARS program allows EagleBank and other community banks to place customer funds into the program that results in FDIC coverage of the entire amount of the CDs, even when they exceed the $250,000 limit.  FDIC-insured certificates of deposit are issued by other banks in the program to the extent the deposit at EagleBank exceeds the $250,000 FDIC cap.  In return, we get a like amount of CDs placed with us from other community banks.

This two-way product, deposit-swapping if you will, is not the same as deposits acquired at above-market interest rates.  The money is not chasing high interest rates.  The customer seeks safety and wants to maintain the relationship with his or her bank.  And it is this sense of security that allows community banks to retain these deposits.  This is not “hot money.”

In today’s technologically advanced world, utilizing a definition of brokered deposits that simply concentrates on the involvement of a non-bank party misses the mark and hurts well-capitalized banks. I urge the FDIC instead to look at the underlying characteristics of the deposit, rather than simplistically categorizing a third-party procured deposit as falling outside of core deposits.