WEST PALM BEACH, Fla. – Corporate credit unions throughout the country – large and small – are reporting that their credit union members are now starting to move money out of overnight accounts and into longer-term corporate investments. With the inverted yield curve present for most of 2001, short-term rates have been so attractive that many credit unions awash with liquidity have left the bulk of it in overnight accounts. There's been so much money in overnight accounts that some corporates have nearly doubled in asset size from this year over last. "It took a little courage a couple months ago to step out on the curve and give up yield in the short-term. Hopefully you had the conviction to give up the short-term yield," said Kevin Chiappetta, vice president of investments for Wisconsin Corporate Central CU. "You may have looked bad for a month or two going out two years giving up 25 basis points, but those that did that are now still sitting at 4.80," or some other rate higher than the short-term rates, said Chiappetta. The Fed's 250 basis points year-to-date cuts have dropped the Fed funds rate to 4%. It doesn't pay to be short right now, said Chiappetta, as the curve is inverted up to about a year, but is positive sloping after that. "We're seeing extension out on the curve, but not quite out beyond two years. A few of our more adventuresome credit unions are doing it, but for the most part it's been 18-24 month investments," said Chiappetta. Wisconsin Corporate put out an 18-month special certificate, and without even the chance to start advertising it, it was sold out. "This is something we've been waiting for for some time, for the Fed to get to the end game of lowering rates," said Marc Schieffer, investment manager for Southwest Corporate FCU. "In the first quarter you had a big disincentive for current yield investors to go out two to three years with the Fed funds rate at 5-5.5%. The two to three year investments credit unions typically buy were yielding 4.5-4.75%, so the incentive wasn't there." But it is now. To meet demand for longer-term investments, Southwest Corporate offered a special three-year investment instrument offering a 5.40% yield. Its member CUs invested over $73 million in just a couple of days, a response that doubled the corporate's previous record for a special certificate. "We're starting to see credit unions finally invest longer after talking to them for a month. There's significant interest in extending out on the curve. I think we're going to be in a prolonged low rate environment," said Dietmar Huesch, Vice President of Portfolio Management for WesCorp. The danger of CUs going longer is that the Fed reverts and starts to raise rates early next year if it sees signs of inflation. Huesch, however, doesn't think inflation is a big factor. "I don't think inflation is a problem right now. It's easier to move things around in the country; easier to replace things; to communicate. All around productivity has put a check on inflation," said Huesch. Huesch said even if rates do creep up next year it will probably mean that the economy is doing better and CUs should be putting more loans on the books, making up for shrinking spreads on their investments. WesCorp sold $40 million in longer-term structured investments in two days. In May it did about $275 million in structured investments, and $900 million total investments for the month. Huesch said credit unions are more apt to look for investments for income as the higher income generating lending has dried up. Credit unions are feeling a squeeze, and have pressure to lower rates on share accounts, and bump up loan rates. Greg Wirthmann, chief investment officer, CFA, for Constitution State Corporate Credit Union said the average term of its certificates sold in March was 0.76 years. That number went up to 1.2 years in May as its CUs have moved longer. Wirthmann said credit unions that extended out on the curve earlier this year are in a great position, but he didn't see many of CUs doing it. "Suddenly you're better off now if you extended out already this year. Of course you were giving up yield in the short-term going out. It's a difficult thing for some credit unions to do," said Wirthmann. Wirthmann said credit unions looking to go long now still have decisions to make. "Some people think that the Fed may have acted too aggressively and there are inflation fears. Other people think that won't happen. We try to emphasize that credit unions should be balanced with their portfolio, take a laddered approach," said Wirthmann. Bart Salazar, vice president of investments for Empire Corporate FCU, said some CUs may now be kicking themselves for waiting too long to go long-term. "We're seeing that credit unions are strictly looking at the shape of the yield curve to influence their investment decisions. When we had an inverted yield curve the case was not very strong to go longer, though it would have been the right decision to extend, but you had to give up 20 BPs to make that call," said Salazar. Salazar said now isn't necessarily a natural time to go longer. "In many respects what you really have to boil down as a manager is maintaining a discipline. If you had a one-year type laddering approach you did OK. You didn't hit a home run, but you didn't get burned. A barbell approach overall still has been the better posture to have had. In many cases the Fed has really been behind the curve. With this last move, for the first time we have a positive spread between a two-year treasury and the Fed funds rate. There's still very much of a short-term thinking out there, hence buying callable certificates. You get that immediate juice up front, unfortunately it gets called away from you at lower rates." Two years may be long for corporates, but not a brokerage firm like Corporate Network Brokerage Services, which is owned by corporate CUs. "To me long is going out 5-10 years. If you're out on the curve right now 3-5 years that's where you're picking up the majority of the yield curve," said Tim Dougherty, SVP of brokerage services for CNBS. In Dougherty's eyes, good plays right now include 5-7 year mortgage balloons; 10-year seasoned mortgage-backed securities; and callables with 3-5 years to maturity and a six-month to one-year lockout. "If you think we're getting to the bottom of the cuts, you don't want to be buying bullets. The most value is in callables. I think in the fall we will be at the end of the rate cycle," said Dougherty. (Editor's Note: In an upcoming issue, Credit Union Times will cover what brokerage firms are seeing CUs investing in.) [email protected]

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