CUs Can't Control Employment, But Can Control Cost Of Funds

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Economically, growth and recovery continue to center around the employment sector.

Its instability directly impacts consumer spending behavior, which accounts for two-thirds of the nation's GDP. Whereas recent data implies some improvement with the unemployment rate falling from 9.0% to 8.1%, as the civilian population has increased 3.7 million over the past year, the labor force has only increased 945,000. Moreover, jobs growth over the past year has increase by 2.2 million workers, but its percentage of the population remains 58.4%.

This is instrumental to loan growth. With job insecurity, falling home values and now a volatile stock market, members choose not to open their wallets and have deferred their spending, notably on big ticket items such as automobiles, homes and appliances-all items on which our industry extends credit. This has driven the sharp drop in loan growth of 1.1% in 2009, -1.4% in 2010 and 1.2% in 2011.

It is estimated that Q1 2012 growth rebounded slightly. So until we see real employment growth, we will continue to experience very moderate loan growth as an industry. Given consumer spending's two-thirds contribution, spending most likely will remain very conservative for the rest of this year with modest improvement in 2013.

The industry data might show slight improvements, the devil really is in the details. Whereas industry loan growth was +1.2% in 2011, the only peer group that actually reported growth were those with total assets greater than $500-million. Each peer sector less than $500 million experienced negative loan growth.

It is very important that credit unions continue to re-deploy their cash flow streams. The Fed has indicated their intent to keep overnight rates at their current level until late-2014 (which probably means 2015). Credit unions must face the fact that the protractedly low rate environment that has been in place for more than three years, will most likely continue for another one to two.

CUs must learn to adjust their perceptive from assessing marginal yields to evaluating marginal spreads. Too many remain worried about the risk rising interest rates might bring. Over the past four years, this fear has led to tens of millions of dollars in lost capital due to fearing the fixed-rate nature of their marginal product offerings, including conventional, fixed-rate residential mortgages, which have been one the strongest performing credit sectors even during the recession.

A 'Self-Imposed' Wound

This self-imposed "shut-off" of loan portfolioing, complicated by falling member demand, has greatly altered balance sheet allocations and earnings profiles as the industry's loans-to-asset ratio most likely dropped below 58% in Q1 2012. Yet, this fear about future earnings has not kept some credit unions from sacrificing between 250 to 300 basis points to current earnings by instead investing in securities. This is not to say that credit unions should portfolio all of their current mortgage production. It is only to suggest adhering to a basic investment strategy that cites the importance of keeping portfolio cash flows intact and that the challenge that "shutting off" those cash flow creates additional risk and uncertainty to its future earnings profile.

One of the best opportunities CUs will have during the latter-half of 2012 is to position their share allocation to minimize overall cost of funds. Non-term shares accounting for two-thirds of most credit union funding are a strength rather than a challenge-even in a rising rate environment. The spread differential between non-term shares and term certificates is meaningful and the strong liquidity profiles and the lack of competition for funds that the industry maintains will help to keep downward pressure on cost of funds in the future.

Brian Turner is Strategic Solution director for Catalyst Corporate, Plano, Texas.

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