Interest Rate Risk and the Examiners
Like everyone else, Eagle Community Credit Union has weathered what CFO Scott Rains described as several years of blustery economic conditions. What’s more, the $206 million institution, located in the Orange County, Calif., community of Lake Forest, has prospered almost in spite of guidance given by its examiners.
Eagle Community, which serves 18,000 members including many federal employees, has few mortgages on its books and is primarily focused on short-term member loans. To help the credit union stay financially viable as the loan market softened in recent years, Rains rolled 50% of the credit union’s assets into investments. But volatile interest rates and a changing economic climate have started to threaten earnings even from that portfolio.
Despite some examiners’ concerns to the contrary, however, credit unions are in a better position than banks and other for-profit financials because the average life of their earning assets are shorter than those of the competition. Even the growth of mortgage lending hasn’t significantly lengthened asset life, which across the industry remains between two and three years, according to Turner.
Some credit unions find themselves in a tug of war that once again pits profitability against safety as defined by the regulator. Instead of booking, say, a seven-year asset at 4.5%, they are told it is better to book a three-year asset like a car loan at 1.9% or invest in a three-year security at 1.25%. But since consumer demand has been soft, the credit unions end up investing in securities or certificates of deposit, according to Turner.
“Assessments seem to ignore the fact that balance sheets are not static,” Turner said. “Loans put on the books over the past three months may account for 10% of a portfolio today, but as rates increase and additional loans are booked at higher rates, those 10% additions drop to 5% of the total very quickly. In the meantime, the credit union’s earning profile has been enhanced during the duration. This seems to be lost in the examination review.”