CHATTANOOGA, Tenn. — A $34-million credit union here has turned around interest-rate risk (IRR) in one year by taking action suggested by risk models-models that some CUs may produce only to satisfy the NCUA.
"Interest-rate risk was a weakness that we turned into a strength," said David Smart, CEO at Trust FCU.
Based on a shock scenario in which rates would go up 300 points, the net economic value was -13.13% in 2007 and is now 2.4%, according to Julie Raines, the CU's accountant. The net interest income was -5.69% and is now -0.42%.
"The NCUA classified us as having high IRR whereas now we are rated as low IRR," Smart said. "Trust Federal is well positioned to take advantage of rising rates once the economy recovers."
The shift resulted from replacing a number of long-term callable bonds in the investment portfolio with short-term assets, he continued. "We have positioned our balance sheet so that, when rates go back up, we, too, can raise rates quickly -because most of our assets are short-term."
Not all small CUs pay heed to their IRR reports, according to Shirley Senn, VP at Denver-based FIMAC Solutions, which offers risk management and profitability solutions to the financial services industry.
"Many credit unions the size of Trust Federal run calculations for regulatory purposes only," Senn said. "In doing so, they really don't get the full benefit of the modeling technology."
Trust Federal, however, "turned around its interest-rate structure amidst the economic quagmire by making strategic decisions to put themselves into a different risk profile," she continued. "They've shown that it doesn't take many years, just a concerted effort."
In 2005, Trust started using FIMAC's on-demand Risk Analytics ALM Model software and services. The Model automatically imports share, loan and investment data from the CU's core system. It also incorporates the quarterly income statement and balance sheet, including embedded options.
The software delivers cash-flow simulation and presents value calculations based on the CU's individual assumptions, as well as income simulations and present value calculations over custom ranges of interest rates. Trust conducts shock tests that consider what would happen to net economic value and net interest income if rates increased by 300 basis points.
"The modeling is done on a line-by-line basis, not just as a total, so Trust ends up with a diverse balance sheet that builds in the risk within various components of the investment portfolio," Senn added.
But FIMAC's management overview of Trust's risk modeling is perhaps the greatest benefit of the relationship with FIMAC, Smart said. "The quarterly management letter compares our data to industry data and shows us how our balance sheet is reacting in the marketplace. It advises us as to areas of concern and as to how we might make a change to get a better yield."
FIMAC steps in as the credit union's CFO, he said. "We have no resources to hire a CFO, so FIMAC gives us the technology and expertise instead"-at less than a CFO's salary. "You could pay six figures for this technology."
Nearly 70 CUs use FIMAC's hosted Risk Analytics ALM Model.
