NCUA Offers Proactive Tips for Yield Curve Changes

ALEXANDRIA, Va. - There are several scenarios credit unions might want to consider to prepare for an "inevitable" change in the yield curve, NCUA recently suggested. There's currently not much difference between short-term share deposit rates and investment yields making it difficult for some credit unions to keep return-on-assets from declining, NCUA wrote in its February/March newsletter. The agency recommended CUs measure their risk-to-earnings and value within an inverted yield curve. "An inverted yield curve is a good (but not perfect) predictor of an economic recession," NCUA said. "An inverted yield curve is a terrific predictor of a profit recession. So, an inverted yield curve may also foreshadow higher loan losses." Because interest rate volatility is low, NCUA said CUs currently investing in securities with embedded short option positions, such as mortgage-backed securities, collateralized mortgage obligations, and callable bonds, may be paying a high price because these investments aren't generating a wide spread compared to noncallable bonds. A return to a more upward sloping yield curve, with higher long-term mortgage rates, will result in slower prepayments on mortgages, NCUA said. The bottom line, the agency reminded, is CUs should have an idea of the impact of an inverted yield curve or a steeper yield curve, with short rates at current levels and long rates higher.