what the ldr can tell you
a loan to deposit ratio shows a bank s ability to cover loan losses and withdrawals by its customers investors monitor the ldr of banks to make sure there s adequate liquidity to cover loans in the event of an economic downturn resulting in loan defaults also the ldr helps to show how well a bank is attracting and retaining customers if a bank s deposits are increasing new money and new clients are being on boarded as a result the bank will likely have more money to lend which should increase earnings although it s counterintuitive loans are an asset for a bank since banks earn interest income from lending deposits on the other hand are liabilities because banks must pay an interest rate on those deposits albeit at a low rate the ldr can help investors determine if a bank is managed properly if the bank isn t increasing its deposits or its deposits are shrinking the bank will have less money to lend in some cases banks will borrow money to satisfy their loan demand in an attempt to boost interest income however if a bank is using debt to finance its lending operations instead of deposits the bank will have debt servicing costs since it will need to pay interest on the debt in times of financial crisis a low ldr will benefit a bank as it will have more liquidity to meet its obligations as a result a bank that borrows money to lend to its customers will typically have lower profit margins and more debt a bank would rather use deposits to lend since the interest rates paid to depositors are far lower than the rates it would be charged for borrowing money the ldr helps investors spot the banks that have enough deposits on hand to lend and won t need to resort to increasing their debt the proper ldr is a delicate balance for banks if banks lend too much of their deposits they might overextend themselves particularly in an economic downturn however if banks lend too few of their deposits they might have opportunity cost since their deposits would be sitting on their balance sheets earning no revenue banks with low ltd ratios might have lower interest income resulting in lower earnings multiple factors can drive changes in the loan to deposit ratios economic conditions can impact loan demand as well as how much investors deposit if consumers are unemployed they re unlikely to increase their deposits the federal reserve regulates monetary policy by raising and lowering interest rates if rates are low loan demand might increase depending on the economic conditions in short there are many outside factors that impact a bank s ldr 