Economic Value of Equity: Are Your Gains Real or Market-Driven?
April 2, 2025
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6 minute read – As interest rates fluctuate and market conditions evolve, financial institutions are seeing shifts in their Economic Value of Equity (EVE). But are these improvements the result of strategic decisions, or are they merely a function of external forces? Understanding the key drivers behind EVE fluctuations is critical for making informed financial and strategic decisions.
The Current Landscape: What’s Driving EVE Changes?
A review of large financial institutions (over $1 billion in assets) generally shows an improvement in EVE in the +300 rate environment. On average, institutions have experienced a 1.7% increase in the economic value of equity ratio in the last half of 2024. However, these gains are not universal. Some institutions, particularly those positioning for lower rate environments by extending duration on fixed-rate assets, have seen EVE declines as rates rise.
For institutions experiencing EVE improvements, asset values—primarily driven by loan portfolios—have increased. This trend is influenced by two key factors:
- Loan Portfolio Repricing
Lower-yielding loans originated in previous low-rate environments are rolling off or making up a smaller portion of portfolios. They are being replaced with loans at higher, current market rates. In institutions analyzed during the third and fourth quarters of 2024, loan portfolio yields increased by approximately 10 basis points. As portfolios continue repricing at market rates, asset values improve.
- Impact of Recent Rate Decreases
The Federal Open Market Committee’s rate cuts have led some institutions to lower rates on select loan products, such as auto loans. While the rates on new loans have dropped—by an average of 30 basis points—those rates still exceed older loan yields, leading to continued portfolio yield increases. For some institutions, this combination of rising yields on existing loans and declining market rates has driven asset value gains of nearly 2% in the +300 rate scenario. However, if interest rates rise again, institutions could see temporary asset losses until portfolios fully adjust.
Liability Pressures and EVE Balancing Effects
EVE is not just about asset values—liability movements play a crucial role. From June to September 2024, asset values increased, but EVE did not rise as much as some anticipated. While declining rates boosted asset values, they also reduced borrowing rates, which serve as a market alternative for deposit funding for many institutions. This diminished deposit values, partially offsetting asset gains.
Heading into the fourth quarter, borrowing rates began rising again, strengthening deposit values. With both assets and liabilities improving, EVE results have seen additional support. However, the balance between mortgage rates and consumer loan rates remains a factor—data indicates mortgage rates have increased, while consumer loan rates have declined since Q3. The overall effect is continued upward pressure on loan values.
Strategic Takeaways for CFOs in 2025
For CFOs and finance teams, understanding the forces behind EVE fluctuations is essential for sound decision-making. While many institutions are benefiting from improving asset values, liability pressures and shifting market alternatives present complex trade-offs. To ensure long-term financial resilience, consider the following balance sheet priorities:
- Differentiate Market-Driven vs. Strategy-Driven Gains: While many institutions are benefiting from improving asset values, the interplay between loan yields, market rates, and liability values can create complex tradeoffs. Assess whether recent EVE improvements stem from external conditions or deliberate balance sheet management. Adjust strategies accordingly to sustain long-term value.
- Communication and Education: Ensure that ALCO members understand what is driving the change in results. Are balance sheet strategies showing up in results, but being masked by market rate drivers? Are results showing more/less risk due to market rates when the intent was the opposite? Non-financial members of ALCO may need education to understand how changes in market rate conditions impact EVE.
- Continue to Closely Monitor and Optimize Loan and Investment Portfolio Repricing: Keep a close eye on the speed at which older, lower-yielding loans are being replaced with higher-rate assets. Consider stress testing under different rate scenarios to prepare for potential reversals.
A proactive approach to these factors will help financial institutions position themselves for long-term stability and resilience, regardless of market fluctuations. By aligning strategic planning with evolving rate conditions, CFOs can ensure their institutions are prepared for changing economic realities.
*Portions of this blog were edited with the assistance of AI.
