Financial institution leaders have endured many trying times including the 1980s savings and loan crisis, the 1987 market crash, and the 2008 subprime mortgage crisis. However, the banking industry has not seen a disruption like the COVID-19 pandemic in over a century.
Well-thought-out strategies, financial plans, operational plans, and resource allocations have all been impacted. What might have seemed a reasonable and logical plan now requires change. Faced with this disruption and uncertainty, institutions must predict various possible futures and strategize how to meet goals and objectives in each scenario.
Forecasting under these conditions requires institutions to update drivers and assumptions while including new constraints and opportunities. By collecting and aggregating data from across the organization, leaders can make informed plans and create tailwinds as the world emerges from this pandemic.
During my 20 years in enterprise performance management, I have seen firsthand how high-performing organizations align budgeting, forecasting, and planning process to outperform their peers. This American Banker excerpt poignantly describes the qualities of high-performing institutions:
Institutions with rigorous budgeting, forecasting, and planning processes access a wealth of information for operational and strategic decision-making. Because forecasting provides a look at what the future might bring and enables planning for that future now, it is a critical tool for this tumultuous time.
Forecasting Tips: A Guide to Action
The annual budget is no longer an organization’s North Star. Executives must make decisions in real time and re-forecast faster than ever. Keep these guidelines in mind:
- Speed versus precision – Err on the side of speed, which often is more important than being 100% accurate with your forecast. Remember, this is a look into the future to GUIDE the decisions made now.
- Forecasting versus annual budget – Complete the forecasting process at a summary level, rather than at a department level as often occurs with budgeting. This will vary depending on your organizational structure, but consider forecasting at the line-of-business or regional levels.
- Forecasting different scenarios – Flex your forecast under various scenarios. What if the recovery is V-shaped, with a quick low and rapid improvement? What about U-shaped, with a longer period of unfavorable conditions? What is the best response under each scenario?
- Economic drivers – Look at current conditions and what has changed. If mortgage loans are a significant business for your institution, have low rates increased demand? How are home sales in your region? Any changes in the cost of living? Has unemployment increased?
- Driver-based relationships – Consider how drivers are tied together. If you plan to increase your mortgage loan production, does that new volume drive additional operating expense? If additional expense is allocated for marketing efforts, does that affect commission payouts?
Let’s examine some of the key drivers and assumptions which institutions may want to consider in their forecast. The economic drivers below reflect national and local economic conditions that may impact forecasts. The second example shows income and expense drivers that will uniquely impact each organization’s operational and financial performance.
|Unemployment Rate||Personal Income|
|PMI (Purchase Managers Index)||Cost of Living|
|GDP (Gross Domestic Product)||Consumer Confidence|
Economic and Expense Drivers
|Interest Rate Spreads||Credit Quality (LLP)|
|Changes to Growth Plans (Assets & Liabilities)||
Managing Liquidity (LCR)
|Pricing on New Business and Re-Pricing on Existing Book||New Operation Procedures|
|Change in Mix Between Margin and Fee-Based Income||Changes in Workforce|
Forecasting and Scenario Analysis Today: Peer Perspectives
We recently hosted a discussion on the effects of COVID-19 in financial institutions, asking panelists from banks and credit unions how they are using forecasting and scenario analyses for short-term planning in this tumultuous environment.
A Controller from a $3.3B credit union described their high-level, directional approach, considering drivers like loan loss and net-interest income, and explained how they are taking a fresh look at planned capital expenditures.
As financial institutions take the first steps to ensure their institutions are sustainable and can recover from the current crisis, the best leaders manage their exposure to risk, look optimistically to the future, focus on serving their communities and clients/members, and use periodic forecasting to help navigate the uncertainty.