Panel data modeling of bank deposits

• DOI: 10.1007/s10436-020-00373-1
• Publication Date: 2020-10-07T00:02:37Z
• Authors: Sofia Costa; Marta Faias; Pedro Júdice; Pedro Mota
• Keywords: Mathematical finance

Studying the dynamics of deposits is important for three reasons: first, it serves as an important component of liquidity stress testing; second, it is crucial to asset-liability management exercises and the allocation between liquid and illiquid assets; third, it is the support for a Liquidity at Risk methodology. Current models are based on $$\textit{AR}(1)$$ processes that often underestimate liquidity risk. Thus, a bank relying on those models may face failure in an event of crisis. We propose an alternative approach for modeling deposits, using panel data and a momentum term. The model enables the simulation of a variety of deposit trajectories, including episodes of financial distress, showing much higher drawdowns and realistic liquidity at risk estimates, as well as density plots that present a wide range of possible values, corresponding to booms and financial crises. Therefore, this methodology is more suitable for liquidity management at banks, as well as for conducting liquidity stress tests.