Excerpt: A Few Things To Consider Before Purchasing A Derivative
February 28, 2013
While many credit unions work on what seems to be a more immediate issue – increasing loan volume – it is important not to forget the looming issue of interest rate risk. Rates have been at historically low levels since the end of 2008 and the Federal Reserve has indicated it expects rates to remain low into 2015. We have said it a thousand times: The longer rates stay at these historically low levels, the more interest rate risk will be added to credit union financial structures (all else equal).
Concern over IRR was recently put front and center with the implementation of NCUA’s new Interest Rate Risk Policy and Program, and it has been a consistent message at conferences that this is one of NCUA’s top priorities. One tool available to credit unions for managing IRR is a derivative. NCUA has made derivatives available to credit unions through a pilot program since 1998. However, few credit unions have participated. Over the last couple of years NCUA has asked for public comment on the issue of expanding credit union access to derivatives. Additionally, NCUA said in a joint town hall meeting (2/5/13) with the Consumer Financial Protection Bureau that a proposed rule on derivatives could be released in the first half of 2013. While no specific changes were described, the intent of the pending proposed rule will be to make it easier for credit unions to purchase derivatives.
While derivatives can be an effective risk-mitigating tool, we encourage credit unions to thoroughly understand the accounting and financial implications before purchasing a derivative. The main objective of this article is to raise questions about financial impacts credit union boards and managements should consider before purchasing derivatives, not to lay out the accounting treatment.
To read the full c. notes article, please see our c. notes page, available here.