US community banks' cost of deposits climbs again across all regions in Q1 2023

As the cost of community banks' deposits continued to jump across the US in the first quarter, the gap between regions in the country widened.

The aggregate analysis includes operating and historical US commercial banks, savings banks, and savings and loan associations that reported less than $10 billion in assets for the quarters ended between Dec. 31, 2021, and March 31, 2023. Banks with current parent companies above $10 billion for any of the quarters were also removed, as were banks with a foreign banking organization charter, industrial banks, nondepository trusts and banker's banks.

Median cost of deposits rises quarter over quarter at US community banks

During the first quarter, the national median cost of deposits — which is the annualized quarterly interest expense on deposits as a percentage of total average deposits — at US community banks under $10 billion in assets was 0.85%, up almost 32 basis points from 0.54% in the fourth quarter of 2022 and 0.25% in the fourth quarter of 2021, before the Federal Reserve began raising interest rates.

This equated to a roughly 36% deposit beta in the first quarter, compared to a 14% deposit beta in the fourth quarter of 2022. Deposit beta is the change in the cost of deposits as a percentage of the change in the average effective federal funds rate.

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The median cost-of-deposits ratio for community banks in the Northeast climbed 34 basis points in the first quarter to 0.94%, the highest among the five US regions. Meanwhile, the median cost of deposits in the South Central region increased 35 basis points in the first quarter to 0.89%, making it the second-most expensive region for the period.

Community banks in the West continued to enjoy the lowest median cost of deposits at 0.68%, up from 0.40% in the final quarter of 2022, which was also the lowest increase among all regions.

Interest-bearing deposit costs

The South Central region posted the highest median cost of interest-bearing deposits — which is annualized quarterly interest expense on deposits as a percentage of average interest-bearing deposits — at 1.28% in the first quarter, up from 0.83% in the 2022 fourth quarter. The Northeast had the second-highest ratio at 1.22%.

Loan-to-deposit ratios increase across the board

Median loan-to-deposit ratios rose in all five regions in the first quarter, led by a 369-basis-point jump in the West to 75.50%.

By comparison, the national median rose by just 76 basis points to 74.11% in the quarter. Since the end of 2021, the median loan-to-deposit ratio in the West has risen by 1,089 basis points, the largest increase among all regions and more than double the 518-basis-point increase in the Midwest region, which had the lowest increase during that time period.

Higher deposit costs, lower net interest margin

On the other hand, median net interest margins (NIM) dropped across the board in the first quarter, led by a 21-basis-point decrease in the Northeast to 3.14%.

The national median NIM dropped 14 basis points to 3.46%.

Largest community banks by assets

This story is the third in a series examining the strategies banks are using to address rising competition for deposits. Read about how some banks are leveraging high-cost products to attract deposits — a strategy that risks cannibalizing lower-cost deposits from existing customers. Read about how some banks are hoping to bolster their deposit bases by capitalizing on the recent failures.

Englewood Cliffs, NJ-based ConnectOne Bank, the US' largest community bank under $10 billion in assets as of March 31, reported a 2.10% cost of deposits in the first quarter, up 178 basis points from the fourth quarter of 2021. This equated to an approximately 40% deposit beta.

The bank's net interest margin dropped 70 basis points year over year to 3.04% as it faced "intense competition" for deposits.

"Towards the end of last year, we made a strategic decision to be more aggressive with deposit rates in order to both retain our existing clients and grow our core commercial client base," CFO William Burns said during parent company ConnectOne Bancorp Inc.'s first-quarter earnings conference call. Burns noted that while ConnectOne's current deposit beta was "pretty high" compared to industry averages, management believes the company is "closer to a terminal beta than most."

Conversely, two of the top 20 community banks by assets managed to maintain cumulative deposit betas below 10% from the fourth quarter of 2021 through the first quarter of 2023 and both made acquisitions in 2022.

Chico, Calif.-based Tri Counties Bank reported a 4.8% cumulative deposit beta. Its parent company, TriCo Bancshares, closed its acquisition of Bakersfield, Calif.-based Valley Republic Bancorp in March 2022.

Greenwood Village, Colo.-based NBH Bank posted the second-lowest deposit beta of the group at 8.7%. Its parent company, National Bank Holdings Corp., closed on its acquisition of Provo, Utah-based Community Bancorp. in September 2022 and its purchase of Wyoming-based Bancshares of Jackson Hole Inc. in October 2022.