Liquidity:  An Asset or Risk? By Natalie Regan   After rates took a nosedive in March 2020 and banks found themselves quickly awash with deposits from PPP loan proceeds and stimulus given to their depositors, bankers were faced with a decision: 1. Wait it out and stay in Fed Funds near 0% OR 2. Keep investing in the same plain vanilla products they have been regardless of rate. A few potential outcomes of these decisions were: 1. If staying in cash, having very little earnings but easy access to cash to deploy at higher rates in 2022 and minimal unrealized losses in the portfolio or 2. If investing, having additional earnings on excess cash, cash flow to reinvest at higher rates, increased potential of significant unrealized losses in the bond portfolio when rates moved higher. We have seen banks in both positions.  Take a look at the two possible scenarios with both banks holding a balance of $10,000,000 in excess funds. Bank A has taken the most conservative approach between the two banks.  Bank A earned a little bit on their overnight funds but was able to invest all of their 10MM into the market at the higher rates 2022 has produced. Bank B was still conservative, investing in the second most liquid asset to Fed Funds, US Treasury Notes.  This bank earned $130k more than Bank B over the 27 months and those 2YR notes are coming or have come due and now are able to reinvest at higher rates now. Neither bank was right or wrong for the decision made.  If the decision aligns with the investment policy for the bank along with the individual interest rate conviction and personal economic outlook, it was the best decision for their bank.  Rather than believing we can time the market or possibly taking on risky investments in the hunt for higher yields, remember dollar cost averaging can be your friend. After years of record low rates and an uptick in rates in most sectors of the bond market presently, either bank, but more so Bank A, could be tempted to make riskier investment decisions based strictly on attractive yields to make up for lost time.  With a potential recession looming, liquidity risk needs to be at the forefront of investors’ minds before time of purchase.  US Treasury Notes, Agency Bullets, Agency MBS, high quality municipals all top the list for the most liquid investments.  For anything else, understand how you can get out of an investment before you buy it.

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