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Definition: Loan to Deposit Ratio (LTD)
Loan to Deposit ratio is the ratio between the bank’s total loans and total deposits. Loan to Deposit ratio is used to measure a banks’ liquidity, which in turn influences the profitability of the banks.
Total loan in the numerator are considered as investments or assets for a bank in the balance sheet. The total deposit in the denominator can be considered as debt since the individual depositors are essentially depositing money to the bank having an expected return equal to the prevailing deposit rates. This deposits can be called by the depositor upon at any time.
If the ratio is lower than one, it would mean the bank using its own deposits to make loans to its customers. A ratio greater than one would mean that to extend loan, the bank itself is borrowing money from external source, which is then re-loaned at higher rates to its customer.
A ratio lower than one, can indicate that the bank is not getting an optimum return. It is because a bank makes profit based on the positive difference between the interest on loans it charged to its customer and the interest of deposit it has to pay to its depositors. A lower ratio indicates that the deposits in the bank are more than the loans given out by bank and hence not generating optimal return from the interest spread. If on the other hand, the ratio is greater than one, means that the bank is borrowing external financing to extend loans to its customers and hence bears the risk of not having sufficient money to meet any contingent financial requirement or during crisis.
Hence, this concludes the definition of Loan to Deposit Ratio (LTD) along with its overview.
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