There are signs the American economy is improving. But, there are very few signs that small to midsize credit unions and small community banks are seeing any improvements in their fortunes as the result of any such improvements in the national economy.  

Small to mid-size credit unions and small community banks are facing some onerous challenges including:

• Oversight from regulatory agencies remains oppressive. Furthermore, resources available to meet increasing regulatory burdens are limited at small financial institutions
• Consumers and small businesses continue to de-leverage their debt. Small financial institutions are still struggling to build their loan portfolios
• Profitability for small financial institutions remains elusive
• For small financial institutions, what little growth there has been in business lending has been primarily in micro-loans (loans dependent on the personal credit worthiness of the business owner)
• Growth in auto loans has been primarily amongst high credit quality (mature) borrowers. Young and lower credit quality borrowers are still out of the loan market as are small business owners
• Community financial institutions continue to engage in cut-throat loan pricing and lowering credit standards to attract borrowers
• Financial institutions face increases in credit loss reserves as a result of the impending "current expected credit losses" accounting method being pursued by FASB
• Credit unions in particular face significant increases in interest rate risk and loan loss risk as a result of the shift to making more long-term auto loans (seven to 10 years)

Improving income from their lending activities is of utmost importance for small credit unions and small community banks.  In the current environment, two of the most productive methods to improve loan income are:

• Reaching deeper into the pool of potential borrowers ("B, C, D, E" credit grades) utilizing empirical, risk-based loan pricing methods.
• Actively managing and "mining" existing borrowers in loan portfolios using stochastic credit migration models.

Empirically derived credit migration models can be used in a number of ways to significantly improve portfolio management and profitability. Management and profitability enhancement methods using credit migration include:

1-      Managing loan portfolios through ongoing decisioning processes.  These processes include: stress testing; concentration-risk testing and policy development; multi-dimensional analysis to identify specific losses; calculating imbedded losses by rescoring loans and then determining current loan-to-value ratios on collateral.