The National Credit Union Administration is likely to find a rather conservative pattern of investment when it gets its first call reports showing dollar amounts of mortgage-backed securities and their derivatives.

"I don't see any quantitative difference between what credit unions are buying and what commercial banks are purchasing," said Andrew S. Carron, director of fixed-income research at First Boston Corp. "Banks have shown a preference for shorter-life, agency Remics," he added.

First Boston sells solely to corporate credit unions, which invest funds for and lend funds to their members, the so-called "natural person" credit unions, which have individual members.

Carron's analysis will come as welcome news to the NCUA, which recently wrote to credit unions, warning them of the dangers involved in the purchase of mortgage-backed derivatives.

The NCUA also notified both corporate and natural person credit unions to begin reporting in their call reports the dollar amounts of mortgage pass-through securities, collateralized mortgage obligations, real estate mortgage investment conduits, CMO/Remic residuals and stripped MBS. The requirement is effective for the March 1993 cycle for credit unions with assets of more than $50 million and beginning in June 1993 for smaller institutions.

"CMOs can be a suitable investment for credit unions, but they are complex instruments, and you need need to be convinced they are appropriate for your credit union," wrote Roger W. Jepsen, chairman of the NCUA.

He explained how sensitive derivatives are to prepayment rates. "You should obtain prepayment forecasts from at least three different dealers when considering a specific CMO," Jepsen advised.

"You cannot buy CMOs, determine they are suitable for your credit union and be done with them," he warned. "These investment must be reviewed periodically. NCUA's regulations require a credit to evaluate these instruments at least annually, but this may not be frequently enough for your credit union.

"In any case, you should always take another look if there are significant shifts in either the economy or in interests rates. CMOs that were suitable for your credit union at one time may no longer be appropriate.

"Above all, remember the first rule of investing: if you don't understand it, don't but it. Educate yourself before you invest in CMOs or any other instrument. Otherwise, it could be a very expensive lesson."

The NCUA has been trying to reduce the riskiness of mortgage-backed derivative holdings for the past two years, as have bank and thrift regulators. The four bank and thrift regulators operate under a policy set by the Federal Financial Institutions Examination Council that applies a three-part stress test to derivative holdings. If a derivatives fails any of the three parts, it must be placed in trading or held-for-sale accounts and used only for hedging.

NCUA, although a FFIEC member, went its own way and decided to use only one part of the formula, the average life sensitivity test.

NCUA also considered imposing a limit of 30% on the amount of assets that corporate credit unions could hold in mortgage-backed derivatives. It later dropped the quantitatives limit and ruled that determinations of the appropriate amount of derivatives holdings would be made on a case-by-case basis, (See The Mortgage Marketplace, May 4, page 2, and Jan. 27, page 1.)

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