Credit unions deal with mediocre lending and strong deposits; loan charge-offs, delinquencies historically low

ALEXANDRIA, Va. – Statistically 2001 and what we have of 2002 so far are almost identical in credit union land – moderate loan growth and strong savings growth. According to NCUA’s mid-year statistics, shares have increased a strong 7.68%, or by $33.6 billion. “Members are seeking a safe haven for their money. There’s no doubt about that. As long as credit unions are repricing their deposits, this is actually a very good environment for credit unions,” said Dave Colby, corporate economist for CUNA Mutual Group. Colby said CUs benefit in a declining rate environment as deposits reprice faster than loans. However, when the equity markets rebound, which he expects them to do, CUs should see the deposit flow turned off and reversed. “A lot of us have a lot of catching up to do on our 401ks, retirement savings, college savings. When a credit union is paying 1% to 2% on deposits, that’s not keeping up with college savings inflation,” said Colby. While there have been rumblings of falling capital because of the deposit in-flows, capital as a whole is still solid at 10.58% as of mid-year. “I wouldn’t even mind seeing it fall for the next few years. Net worth got extraordinarily high in the late `90s largely because asset growth was weak for many years. If we had gone into this current period of rapid growth with net worth of 7.5%, we’d be in the mid 6′s, but we went in at 11.5%,” said CUNA Chief Economist Bill Hampel. Loan growth is still very mediocre at 3.47%, or $11.2 billion, for the first half of 2002. First mortgages have carried the day at 7.46% growth, though Hampel says the mortgage boom could slow next year. (See related story on page 6).Used auto loans are the next best loan source for CUs at 4.78% growth. Unsecured credit loans and all other unsecured loans actually decreased in the first six months by 5.69% and 4.08% respectively. Despite rallying calls for bankruptcy reform, CUs aren’t losing much money at all from bad loans. Delinquent loans decreased to 0.72% of total loans, and net charge-offs stand at 0.49% – two very anemic numbers historically. Hampel says these numbers may in fact be too low. “There are two types of errors in making a loan. One is to make a loan that goes bad. Credit unions get monthly reports (charge-offs) on those. The other mistake is to not make a loan that would have been paid off. I think there’s a natural tendency to minimize the risk you can measure as opposed to the one you can’t,” said Hampel. Hampel said concerns about bankruptcy have probably made CUs even more conservative in their lending policies. The concern is that that CUs may not be lending enough to higher risk members. WesCorp SVP/Chief Investment Officer Bob Burrell believes CUs are moving down the credit chain, and those that haven’t have to proceed with care. “While I certainly support the need to meet member’s needs, sub-prime lending requires a different set of skills and operating procedures. Risk-based pricing, if handled correctly, can be a viable business strategy. However, this can also be dangerous territory for credit unions who are not fully prepared,” he said. Burrell, who specializes in CU investments, said the trend of CUs investing in longer-term vehicles is a good thing. NCUA’s mid-year stats show that long-term investments (over one year) increased $15.1 billion or by 22.65%. “On balance I think the increase in longer term holdings is probably a good thing. The portfolios of many credit unions have disintegrated over the last 21-months since the Fed started easing monetary policy. We still expect more that 60% of current holdings to mature, pay down or re-price over the next 12-months. Consequently many credit unions have considerable exposure to further declines in rates or even rates staying flat,” he said. Burrell said he doesn’t recommend any major extensions at this point in the rate cycle, but does recommend that CUs continue to maintain their maturity ladders. “The yield curve is still fairly steep and it is expensive to leave excessive funds in overnight accounts,” he said. Hampel said CUs should be careful not to get too “heroic” with investments. “Don’t think you have to do something heroic because of low interest rates. Don’t bet that interest rates can’t stay this low for long. They can stay down for a long time. Credit unions should be hedging,” said Hampel. NAFCU Economist Jeff Taylor says credit unions have become more creative in searching for investment yield, mainly in looking more at mortgage-backed securities and CMOs, both up about 18% in the first half of the year. “I don’t think there’s too much risk there, but certainly as interest rates change, the ability for these to be called is there,” he said. What impresses Taylor most in the mid-year stats is ROA, which hit 1.04%. “That’s a good story in this kind of situation. With low-cost of funds, how are they making money? A lot of it is on the fee-income side. While fees are a bad word to some, they shouldn’t be. Credit unions are making fee income from more member services, not ATM transactions,” said Taylor. Colby says looking forward CUs really need to start evaluating their service menus to thrive in the future. “Long term, credit unions have to move away from pure banking to a more consumer finance concept. Credit unions are in a fantastic position to do everything from trust services to asset management and asset protection,” said Colby. He said Americans will want more handholding in the future when they retire and try to figure out what to do with the assets they’ve protected. These expanded services go to what Taylor discussed in CUs brining in more fee income from other streams, such as these financial consulting avenues. [email protected]