The End of Disintermediation ' ' '

1
The End of Disintermediation . . .

• Community Regional Bank Forum
• Bank Insurance Securities Association
• Omni Interlocken Resort -- September 18, 2006

2
Roadmap

• To what extent do a financial institutions
  investment sales disintermediate its deposits?
• trends in deposit cannibalization
• gross disintermediation versus true
  disintermediation versus net disintermediation
• Deposit replenishment
• How different banks view disintermediation

3
Disintermediation2005

• Last year about one-third of the money used to
  buy investments at banks came from the banks own
  deposits
• Wide range of experience across banks
• In one-fourth of banks the disintermediation rate
  was less than 20
• But in another one-fourth it was more than 48

4
Trends in Investment Sales Disintermediation of
Deposits
5
Disintermediation by Program Maturity
6
Funds Intercepted2005

• Banks that track intercepted funds report that,
  on average, 20 of the domestic deposits used to
  fund an investment sale was leaving the
  institution anyway
• In one-fourth of the banks, more than 30 of the
  money was leaving anyway
• But in another one-fourth less than 5 was
  intercepted

7
Reporting Disintermediation Data

• Only 55 of institutions are able to report how
  much investment sales are funded by institution's
  own deposits
• Only 24 track intercepted money
• differential commission pay out for inside
  versus outside funds
• post sale customer satisfaction/compliance
  surveys

8
True Disintermediation 2005

• Not counting money leaving anyway, 24 of the
  funds used to purchase an investment come from
  the banks own deposits
• In one-fourth of the banks, the true
  disintermediation rate is less than 11
• But in another one-fourth, 35 of the banks own
  funds were truly cannibalized by the investment
  sale
• Banks that tracked intercepted deposits had gross
  disintermediation of 30 30 minus 20 of 30 is
  24

9
Reporting Disintermediation Data Referrals to
the Bank

• Only 52 of institutions are able to report how
  much investment sales are funded by institution's
  own deposits
• Only 25 track intercepted money
• 44 of financial institutions track referrals by
  brokers back to the institution down from 47 a
  year ago
• Only 31 track the dollar amount of deposits
  acquired through those referrals up from 14 a
  year ago
• Only 21 track the dollar amount of loans
  acquired through those referrals up from 9 a
  year ago

10
Referrals Back to Institution

• Last year bank banks made 3.9 referrals to their
  brokerage units for every referral from brokerage
  to the bank
• Average broker received 178 referrals from the
  bank, down from 195 in 2004
• Average broker provided 33 referrals to bank, up
  from 29 in 2004

11
Dollar Amount of Referred Deposits and Loans

• Large relative to banks investment sales
• Dollar amount of referred deposit accounts
  actually opened 16 of banks investment sales
• Dollar amount of referred loans that closed 6
  of banks investment sales
• Should net these successful referrals to bank
  against disintermediated deposits

12
Net Disintermediation2005

• 30
• 20 of 30
• 24
• 22
• 2

• Inside source of funds
• Minus money leaving anyway
• Equals True Disintermediation
• Minus deposits and loans referred back to
  financial institution
• Net Disintermediation is negligible
• For banks that track intercepted money

13
Impact of Investment Sales on Deposit Base 2005

• Because investment sales are very small relative
  to institutions deposit base, even the impact of
  gross disintermediation is small loss of less
  than 1 of retail deposits per year
• Impact is even smaller when we take into account
  money leaving anyway and deposits referred by
  brokers
• Investment sales cannibalize two-tenths of 1 of
  core deposit base annually

14
The Replenishment Hypothesis

• When customers use their savings accounts to buy
  an investment where they bank, they tend to
  replenish those deposits in ___ months
• As customers add an investment relationship to
  their banking relationship, they tend to look at
  the institution that sold them the investment as
  their primary financial institution
• So they begin moving deposits from other
  institutions to replenish their account at their
  primary institution

15
The Replenishment Myth

• Classic example of selectivity bias
• Customers are adding to their savings accounts
  all the time
• Customers who invest are more likely to increase
  their savings accounts more than other customers,
  because they have more money, are earning more
  money, and already save money
• Replenishment hypothesis makes sense, but cant
  estimate the impact of replenishment without a
  control group

16
To What Extent Do Investment Sales
Disintermediate Deposits?

• Fourth edition -- original analysis in 1989
• Includes information on the determinants of
  disintermediation
• --product mix
• --type of sales force
• --compensation structure
• www.kehrerlimra.com

17
Bank View of Disintermediation