Throughout the worst economic crisis since the Great Depression, a time when many consumers were struggling financially, credit unions provided much-needed financial services to their members.
Lending in these difficult economic times, however, resulted in high delinquency and charge-off rates. In response, NCUA has focused on mitigating lending risks – and I am pleased to note that delinquencies and charge-offs have stabilized over the past year.
While loan demand remains sluggish, member business lending has surged in recent years, helping some credit unions to diversify their portfolios.
For most financial institutions, including credit unions, high unemployment and the collapse in the housing market will continue to put pressure on loan portfolios. Credit union officials can expect that weak loan demand combined with continued low interest rates will present earnings and asset-liability management challenges in the coming year.
So how can credit unions prepare for exams in 2012? Generally speaking, NCUA will remain focused on strong due diligence and risk management. Examiners will carefully evaluate the following aspects of credit union lending and loan portfolios:
Concentration risk.Credit unions with a large portion of their loan portfolio in a particular type of loan – especially real estate loans – are exposed to concentrated credit, liquidity, and interest rate risks. Credit unions with large real estate loan portfolios are exposed to potential elevated credit risk, given high unemployment and ongoing challenges in the housing market. NCUA expects credit unions to have in place sound portfolio limits to prevent excessive concentration risk and to continually manage within those limits.
Long-term, fixed-rate real estate loans. Credit unions with elevated levels of long-term, fixed-rate real estate loans made at historically low interest rates are exposed to significant interest rate risk as we prepare now for a rising rate environment. Examiners will focus on the ability of these credit unions to develop models and to manage the associated interest rate risk.
Yield focus. In this low rate environment, credit unions may seek to take on more credit, liquidity, or interest rate risk to earn a higher yield. Yet, credit unions that take these risks without proper due diligence, expertise, or experience are exposed to potentially significant losses. Examiners will be closely examining the planning and analysis conducted by credit unions offering new loan products or making decisions to increase the overall level of risk in their portfolio to generate additional yield.
Loans generated by third parties. Credit unions that purchase loans from other lenders (including other credit unions), or participate in loans originated by other lenders (also including other credit unions), must conduct effective due diligence, employ sound underwriting standards in the purchase decision, and have proper controls in place to monitor this activity.
Loan modifications. Given the recent economic challenges, there has been a commensurate rise in credit unions working with members to adjust loan terms. In addition to enabling borrowers to repay when they have the capability, working with members experiencing financial difficulties will keep them in their homes and build institutional loyalty. Clearly, this is a win-win. However, making adjustments to loan terms, particularly the past due status of loans that are already delinquent, can mask problems in the loan portfolio. Thus, while NCUA supports sound member-centric loan modification and workout programs, examiners will ensure that those credit unions have appropriate policies and controls for this activity.
In 2012, as always, NCUA examiners will focus on evaluating the quality and effectiveness of each credit union’s policies and practices for identifying, measuring and managing loan portfolio risk. More than ever, credit unions must be diligent and proactive in managing risk.
Of course, NCUA will continue to encourage responsible lending. The best service credit unions can offer members during these uncertain economic times is access to sound and affordable loans through a healthy financial institution.
We at NCUA are committed to working with credit unions to promote healthy loan growth as our nation’s economy recovers. Please contact your examiner or regional office if you would like additional information about managing the risk in your loan portfolio.
Debbie Matz is chairman of the NCUA.
Contact 703-518-6309 or firstname.lastname@example.org