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WASHINGTON – Is there going to be a housing bubble? When will it happen? Will it be national or local in scope? Economists and mortgage experts continue to debate these important questions, but credit union lending experts are already taking proactive measures to protect their balance sheet if a real estate bubble does occur. Three such VPs shared their insights recently during a Callahan & Associates webinar held Aug. 2 on “Reacting to Bubble Trouble: The Credit Union Approach.” The CU executives – Robin O’Rorke, Desert Schools FCU; Brian Thorton, Stanford FCU; and Don Evans, Hudson Valley FCU – discussed steps their credit union has already taken to address the issue and outlined preventative strategies credit unions can take now to minimize the effects of a possible housing downturn. According to Callahan & Associates Industry Analyst Tom Geggel who moderated the webinar, real estate lending is become an increasingly larger portion of CUs’ overall lending portfolio – it’s grown about nine percentage points since 1997, and is at an eight year high of 47.1%. Citing indicators such as rising home prices with prices trending away from value – the U.S. average for the one year change in house prices 1Q 04 to 1Q 05 was 12.50 – easy credit and investor/speculative purchases, Geggel opined that “a real estate bubble may exist at least at a limited level.” But then again, maybe not. Housing starts are up in certain regions, said Geggel, demand still exceeds supply, and credit unions are not making speculative loans. At first glance, “it seems logical there is a bubble, but you have to look closer,” said Hudson Valley FCU Director of Lending Evans. The $1.9 billion HVFCU’s real estate portfolio grew 11% in the last year and the CU is positioning itself for further growth. By definition, said Evans, “A real estate bubble is created when the demand for real estate and the supply for real estate are significant out of balance.” Such was the case, he noted, during the late 1980s and early 1990s when the large supply of specialty products coupled with a decrease in demand exacerbated the housing supply and caused a bubble burst, particularly in certain parts of the country like Colorado, Texas and some New England states. That’s not the case today, said Evans. In the Northeast, for example, new home supply has been less speculative. However, Evans opined, “If a housing bubble burst were to be defined as a drop in residential values by 20% or more, I do believe that there are pockets around the country where residential real estate prices pose a major threat to a housing bubble burst. This may have a ripple effect throughout the country.” Mitigating risk and protecting a balance sheet from the effects of a housing bubble burst – should it happen – requires a balanced approach to portfolio management, said Evans, and “that requires a concerted effort to track interest rates, supply and demand.” “It is also critical that prudent lending practices be adhered to,” he added. “Prudent debt-to-income ratios and reasonable terms are essential. Creative financing and creative underwriting will come back to haunt a portfolio.” He stressed that, “The goal of portfolio management is not only to product a reasonable ROA but also to maintain soundness and safety. Interest rates go and up and down, and interest rate risk management is critical. Residential home prices and credit quality also go up and down. Credit and collateral risk must be an essential part of portfolio management.” With the average sale price of homes in the Stanford/Palo Alto, Calif. area being about $1.5 million, Stanford FCU has taken some unique steps to address its concerns about a possible housing bubble. VP of Real Estate and Business Lending Thorton said the $634 million SFCU considers itself a fairly conservative lender compared to other lenders in the area. The CU doesn’t retain anything over 80% LTV and only 6% of its first mortgage production are interest-only mortgages, a product Thornton said SFCU is not pushing. In addition, Stanford FCU requires two appraisals on mortgages over $650,000. Stressing that due diligence is key, Thorton believes that the largest risk to the real estate portfolio is home equity loans. So much so that even while SFCU’s competitors do 125% LTV on home equity lines of credit, Stanford FCU does not. Desert Schools FCU VP of Lending/CLO O’Rorke said the $2.3 billion CU has also taken initiatives to address the uniqueness of the Phoenix real estate market such as lower median home prices than the national median, price appreciation in certain zip codes, and a disparity in home price to rent ratio. To help meet member demand for affordable housing, DSFCU offers financing for non-warrantable condominiums and investor loans, but it follows strict due diligence and underwriting procedures for these loans. O’Rorke said those practices have allowed DSFCU to maintain low delinquencies and no foreclosures. Before making condo loans, the credit union goes through a condo complex review check list to assess the level of risk of the loan, evaluating factors such as the age of the complex, building structure and the track history of the developer. Its due diligence processes on investor loans is also very thorough and includes actions such as requiring a minimum credit score of 680, analyzing the member’s level of unsecured debt and analyzing the velocity of debt recently acquired by the member. Whether or not a real estate bubble exists or is going to happen, Geggel advises CUs there are best practices they should adopt for better risk management and to make sure they’re not overextended in their mortgage lending operations. -

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