Deposit Rates Erode Savings and Cost of Funds Growth
The strain of staying ahead of managing capital and net worth ratios has left some credit unions looking at the bottom of the barrel for more solutions as the year comes to an end.
Dave Colby, chief economist at CUNA Mutual Group, said deposit yields are being looked at harder in light of a slowdown in such savings products as money market accounts and certificates of deposits.
"While they have many levers to pull, given the headwinds of assessments, low loan demand and rising compliance costs, the most effective lever is deposit yields," Colby said. "This lever not only reduces savings growth but also reduces cost-of-funds [and] improves net spread."
Since the beginning of the recession around December 2007, one-year CD yields are down 70%, money market account yields are down 76%, regular shares 64% and share drafts 36%. Translation: all key deposit rates are at historic lows, Colby said. The net effect was the cost-of-assets declined 54% from June 2007 to this past June, according to CUNA Economics and Statistics.
Following midyear data revisions, credit union assets were restated $1.6 billion lower, cutting 20 basis points off of previous growth estimates, Colby said. Reductions in both borrowing and savings estimates were the key factors, he added. At the end of August, CUNA estimates showed $925 billion in assets with annual growth now at 3.4%, which is less than half the 10-year average.
"If you're having a problem with the numerator as far as growing capital, then you can also slow down or reverse growth in getting deposits out the door," Colby said. "If those deposits leave when rates are lower, that's reducing the cost of funds and you can make a positive spread."
Meanwhile, credit unions may have to be more creative and flexible to meet the savings needs of their members. The demand for short-term CDs is down 28%, but banks and credit unions added 26% more short-term CD products so far this year, according to research firm Market Rates Insight.
Still, some financial institutions may be out of sync with what consumers are demanding. In the first nine months of 2010, demand for three-month CDs dropped by 16%, from a balance of $277 billion in January to $232 billion at the end of September, MRI data showed. Despite such substantial decrease in demand, banks and credit unions increased their three-month CD product offering by 10% over the same time period. Demand for CDs of three to 12 months dropped by 12%, from a balance of $502 billion to $443 billion, yet banks and credit unions added 16% more CDs of six-, nine-, and 12-month terms.
"Offering consumers more of what they don't want is not likely to produce positive results" said Dan Geller, executive vice president at MRI. "At a time when developing long-term relationships with customers is paramount, banks and credit unions should be very tuned in and responsive to how consumers vote with their dollars."
The opposite holds true for long-term CDs, according to MRI. From January to the end of September, demand for long-term CDs of three years or more increased by 4%, from $105 billion to $109 billion. Despite an increase in demand for long-term CDs, banks and credit unions decreased their long-term CD product offering by 24% over the same time period.
"This asymmetric approach to market demand is counterintuitive because it is in the best interest of banks and consumers to get more of what they want," Geller said.
For consumers, locking in current rates for three or more years is a hedge against future decline in rates, and for banks and credit unions, it is advantageous to lock in long-term deposit at a low rate environment as a hedge against rate increases in one or two years, Geller suggested.
Colby said the lack of loan demand and other factors will continue to impact what credit unions do with deposit rates. Short term rates, whether they are U.S. Treasury or overnight at corporate credit unions, are probably lower that what a credit union's cost of funds are, he added.
"If you get $1,000 in the door, even before you do anything it's going to cost [a credit union] 24 basis points because of assessments," he pointed out. "Discouraging deposits by reducing rates-it's a strategy no one wants to do short term. It's kind of contrary to what credit unions do, but we're in extremely tough times now."
Long term, credit unions need growth to balance rising expenses, Colby said. In an environment with low consumer loan and mortgage loan demand, holding on to fixed-term assets can be a barrier to earn positive spread. He doesn't anticipate interest rates moving up any time soon and is uncertain if they would produce a desired outcome.
"If rates move up very sharply, it would have temporary results. A ton of people would default. Any kind of drastic move would be shortly followed by a slowdown and a then a small recovery."
It's not that some credit unions chief financial officers and CEOs do not want to make changes. They wish the adjustments could be made faster with the inflow of deposits, but things like rising compliance expenses can halt efforts.
"Boards want to maximize rates. There are loans, but no one wants to do loans," Colby said. "I would like to see credit unions make more loans and take a little bit more risk."