Investments Shift away from Bank Deposits
The 2023 AFP Liquidity Survey found that treasurers are reducing bank deposits and moving investments toward more secure vehicles, reflecting the U.S. economic climate of 2022 and the bank failures of 2023.
An unsurprising shift toward security is the overarching theme in the results of the 2023 Association for Financial Professionals (AFP) Liquidity Survey Report, underwritten by Invesco.
Focused on current and emerging trends in organizations’ cash and short-term investment holdings, investment policies, and strategies, the survey was conducted in March 2023 and received 222 responses from AFP’s corporate practitioner members and prospects within the United States.
A Review of 2022
Looking back at the prior year is important to understanding the results of the survey. In 2022, worldwide disruptions in the supply chain continued, and the U.S. saw its highest inflation rate since 1982, which impacted nearly every sector of our economy.
At the same time, the job market was—and remains—tight. Many in the workforce leapt at the opportunity it presented, leading to the “Great Resignation.” The result was an increase in wages, adding to inflationary pressures. The Federal Reserve increased its federal funds target interest rate 10 times from March 2022 through May 2023, for an overall increase from 0.25 percent to 5 percent, creating concerns that this shift would trigger an economic downturn and, ultimately, a recession.
Then, in March 2023, a potential banking crisis emerged following the collapses of Silicon Valley Bank and Signature Bank. The federal government intervened to contain the crisis and was partly successful in preventing a run on the banks. Nearly two months later, First Republic too began facing challenges and ultimately failed; it was seized by the FDIC, then sold to JPMorgan Chase.
Bank collapses have not been limited to the United States. Credit-Suisse First Boston (CSFB) faced severe headwinds, culminating in its largest backers declining to invest further with the bank. The Swiss Central Bank stepped in to help CSFB and engineered a merger with UBS, the largest bank in Switzerland.
Key Findings
In the aftermath of all these events, the 2023 AFP Liquidity Survey found four indicators of corporate treasury groups’ shifting attitudes toward cash investments:
1. Decline in allocation to bank deposits. Organizations remain cautious, leaning toward stability and safety in their investments. Attributable to the bank failures earlier this year, the 2023 survey found an 8 percentage point decrease, compared with our 2022 report, in the proportion of cash and short-term allocations that companies are maintaining in bank deposits. This year’s 47 percent is the lowest proportion of funds held in bank deposits that we’ve recorded in four years.
Instead of bank deposits, organizations began moving their cash and short-term investments into government/Treasury money-market funds (up 4 percentage points) and Treasury bills (up 2 percentage points). Allocations to agency securities also increased, to 4 percent—a 2 percentage point increase over last year. Thus, the decreasing proportion of cash in bank deposits is largely offset by an increase in the obligations of the U.S. government and its agencies.
Most organizations continue to allocate a large share of their short-term investment balances (an average of 79 percent) to safe and liquid investments, including bank deposits, money-market funds (MMFs), and Treasury securities. This is just 2 percentage points lower than the 81 percent we reported in 2022—which was the highest figure since AFP began tracking the data.
2. Shifting allocation sentiment. Many treasury teams expect to continue shifting their investments away from bank deposits. The percentage of respondents reporting that their organization is planning to increase allocations in bank deposits (27%) is nearly equal to those who plan to decrease their deposits (25%). Cash allocations are instead trending toward more secure vehicles, with 38 percent of treasury professionals reporting that their organization plans to continue increasing its cash allocations to government/Treasury MMFs into 2024, while only 8 percent expect a decrease.
Investors see several good reasons for allocating cash to government/Treasury MMFs. Due to their shorter durations, these investments are able to capture any rate increases quickly. Also, they absorb rate increases while bank deposits increase rates on deposit products, like the earnings credit rate (ECR), at a slower pace. Additionally, money funds offer a level of transparency in reporting that banks can’t match.
Our 2023 survey shows environmental, social, and corporate governance (ESG) investments continuing to rise as well, with 27 percent of organizations adding ESG parameters or mandates to their investment policy and 21 percent adding ESG money funds to their portfolio.
3. Banking relationships remain a strong determinant for investment. The factor most often considered by treasury practitioners when selecting banks for their deposits is still the company’s overall relationship with the institution. Though the proportion decreased by 10 percentage points from 2022, the vast majority of respondents—83 percent—cited the banking relationship as a key consideration in their bank selection process. Additionally:
- A bank’s credit quality is a deciding factor for 73 percent of finance professionals, up 1 percentage point from 2022.
- Compelling rates on deposits are a determinant for 53 percent of respondents.
- The simplicity of working with the banking partner is considered important by 48 percent of respondents, which is a 12 percentage point increase over 2022.
Practitioners are also considering the available earnings credit rate when selecting their banking partners. Compared with 2022, this year’s survey shows that the largest changes in significant determinants revolve around yield—i.e., the ECR, transparency of the rate, and application of the ECR across the relationship.
4. Yield is the primary rationale for investment in U.S. domestic prime and floating NAV funds, but other reasons are catching up in popularity. Fifty percent of respondents cited yield as their primary rationale for investing in U.S. domestic prime or floating net asset value (NAV) funds, which is 18 percentage points lower than in 2022. The second-highest–rated reason is ease of the transaction process (38%), which is 17 percentage points higher than reported in 2022.
Other primary rationales noted by respondents include:
- Fund ratings/credit quality (26%),
- Spread over government MMFs (24%), and
- Diversification of underlying instruments (24%).
Interestingly, the overall allocation to prime funds did not change compared with last year, while ease of transaction process and fund ratings/credit quality of the fund shifted positions.
At the Economic Policy Symposium in Jackson Hole, Wyoming, Federal Reserve chair Jerome Powell made it clear that the central bank continues to be focused on lowering the inflation rate to 2 percent. For the corporate investor, this brings uncertainty, as it involves balancing various factors that the Fed is monitoring: economic growth, the labor market, real interest rates, and—most important—inflation. We have yet to attain the 2 percent inflation rate that the Fed is targeting.
The economic impact of the regional banking crisis earlier this year is still being felt. With counterparty risk still a concern, treasurers continue to shift some investments from banks to money-market funds, a move that provides more diversification. This trend is likely to continue, as banks have been slow to increase rates on deposit products as quickly as the Fed is raising borrowing rates. On the other hand, money funds respond to each rate change more quickly.
Treasurers need to remain prudent and steadfast in their investment goals, with rate-increase transparency being more sought-after than the more esoteric ECR or bank deposit rates, which are rising more slowly.