Faith In A Recovery That Never Came Just 1 Of Many Wrong Assumptions

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WASHINGTON-Asset managers at corporate credit unions dutifully relied on past experience and rating agencies when buying securities during the bubble earlier this decade. But product innovation and a change in the mortgage market dynamic ultimately spelled disaster for many institutions, noted one analyst.

"I think it was reasonable for the corporate investors to have taken some comfort from the AAA ratings that they were getting from the agencies. Those were very strong indicators in the world as we knew it then," CUNA's chief economist, Bill Hampel, explained. "And until [that] time the safest investment in the world was a U.S. Treasury security and a close second was a U.S. mortgage-backed security. No one in the modern era had lost on mortgage-backed securities, except on interest rate risk."

The trouble arose because the new MBS products were not like those created in years past, yet most still earned the same stamp of approval from rating agencies and the general marketplace. Hampel, who recently authored a white paper projecting the cost to natural-person CUs due to ongoing losses will be a latter-half 2010 assessment of between six and 10 basis points, allowed that prudent investors should wonder why the yields were moving higher while the credit risk remained the same, but pointed out that a myriad of factors could push yields higher and that it wasn't as simple as the new products being riskier.

The economist dismissed the idea that the trouble was caused by having "the wrong people in the wrong places," noting the large number of very sophisticated investors outside the credit union industry that continued to buy these securities during the bubble. Hampel was critical of corporates for buying a "disproportionate amount" of MBS in 2006 and 2007, when warning lights started to flash ever more brightly. But corporates may have felt justified making those purchases at the time; Hampel noted that many institutions with which he spoke fully believed that they would bounce back as the subprime crisis faded in mid-2007.

"I got the very firm impression from them that they fully believed that the worst was behind them... [that] this was an accounting loss that would in essence be recovered when the markets recovered," he said.

Of course, that recovery never materialized.

Moving forward, Hampel believes natural-person CUs will not see as big a change in how they manage their investments, as some have forecast. While credit unions will be forced to do the investing on their own balance sheets, corporates could still play a big role in providing a broker/dealer relationship or investment consulting. Hampel also floated the idea of NCUA approving companies to act as investment managers for credit unions, provided that they are subjected to regular examination by the regulator.

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