Not all cash is created equal — how to optimize your liquidity strategy for the current reality

In response to the 2008 financial crisis and Great Recession, the Federal Open Market Committee (FOMC) lowered the federal funds rate to support the recovery of the U.S. economy. Interest rates remained low for more than a decade, but in 2022 and 2023, inflation soared, prompting the FOMC to raise rates. As a result, the landscape for businesses has changed — and if your organization has not adapted its liquidity strategy accordingly, it could be costing you.

How do you know whether the current allocation of your funds is problematic? And where do you begin realigning your liquidity strategy with the current economic reality and your short- and long-term business goals? The following questions and considerations will help you optimize your liquidity strategy for today’s economic environment.

Where is your money, and why?

The first step in updating your liquidity strategy is examining the allocation of funds among accounts used for daily working capital, cash held on behalf of others, and funds that are on deposit or reserve to meet longer-term needs. Consider the following questions:

• How much working capital do you need?

Working capital is for short-term obligations, such as accounts payable and buying inventory. If the business depletes its working capital, you risk running out of cash. A working capital ratio of 1.2-2, meaning the total of your assets is 1.2 to 2 times the total of your liabilities, is generally considered ideal¹.

• How much excess liquidity do you have?

Excess liquidity is the money you have left over after short-term liabilities are covered. High liquidity indicates that the company is fully capable of meeting current obligations, but a working capital ratio greater than two may be a sign that your company isn’t using its working capital efficiently.

• What rate(s) of return are you earning today?

Some investment options that were largely ignored 18 months ago are now producing noteworthy returns. For example, a one-year certificate of deposit (CD) in January 2022 yielded 0.13%. By the third quarter of 2023, the best one-year CD rates were over 5%. Ten-year treasury yields have been on a similar trajectory, rising from 1.75% to 4.25% over the same period².

• Is there a comfortable level of liquidity across the funds in question?

Often, the trade-off to access higher rates of return is illiquidity. While the yield on CDs and treasuries has climbed along with interest rates, these and other investments require the funds to be inaccessible for a certain period or time horizon. For example, venture capital funds often hold investors’ money illiquid for a decade³. Calculate how much cash your business would need to operate in a more challenging environment for a prolonged period, and then make sure that baseline amount is held in interest-bearing accounts that allow you to access funds quickly.

Not all cash is created equal. Take this opportunity to make sure your cash strategy and account structure support your cash management objectives. You can also compare benefits and features between different banks offering the same financial products. For example, most banks force clients to actively manage funds left over in bond accounts after their fees are covered, which often results in the account holder earning no return on those funds. With KeyBank’s Interest on Excess accounts, clients earn interest on those surplus balances after they've covered their monthly fees.

Is your commercial banking relationship a true partnership?

As you consider your overall liquidity strategy, it's also important to take a look at the health of your banking relationship. There’s a difference between a bank that offers the same one-size-fits-all solutions to every customer and a bank that cultivates a partnership with each business it serves. A partner strives to understand the objectives behind each client’s approach to liquidity management, and those insights inform recommendations and solutions that support each client’s unique needs.

Even through the current period of economic uncertainty and volatility, KeyBank has maintained partnerships with loyal customers and achieved higher-than-average deposits. Almost all of the institution’s commercial deposits (97%) are tied to clients who either have operating accounts or deep commercial relationships with KeyBank.

For an example of how valuable a true partnership can be, consider the recent failures of three U.S. regional banks, which prompted some companies to mandate transferring deposits to global systemically important banks (G-SIBs). KeyCorp is not a G-SIB but is a domestic systemically important bank (D-SIB), which makes KeyBank subject to the most stringent annual stress test conducted by the Federal Reserve. Ultimately, most Key customers recognized that switching funds to a “behemoth bank” was unnecessary, especially if it came at the expense of the accessibility and personal service that characterize their KeyBank partnerships.

For Key clients that were also banking with one of the failed regional banks, KeyBank activated and cross-trained teams to support clients that needed to transfer their funds quickly. These teams were available nights and weekends, could open new accounts in less than a day, and in some cases even allowed customers to initiate transfers before an account was finalized.

Another area where speed and accessibility can make a crucial difference is combating fraud and scams. A swift response to an incident can mean the difference between a mild inconvenience and a major breach. When a client does experience fraud, KeyBank mobilizes systems and processes that help thwart the criminal and resume normal operations as quickly as possible.

Of course, a sense of urgency isn’t just reserved for crises. The current economic environment may produce opportunities to merge with, invest in or acquire other entities. At a time when many companies have ample cash reserves to spend, these transactions may require speed, accessibility, and agility, all of which are strengthened when a business has close personal relationships with its bankers.

Now is the time to take a closer look at your cash and working capital

Businesses operating in today’s economic landscape face myriad challenges — from supply chain disruptions to talent acquisition and retention, to remote work versus return-to-office. If volatility and uncertainty on so many fronts have caused your organization to put off updating its liquidity strategy, now’s the time to work with your banker to review and optimize the way you’re allocating your funds and managing your cash.

KeyBank’s full suite of integrated payment solutions are delivered by a dedicated team of local experts. To learn more or to speak to one of our experts, visit key.com/commercial.