Posts

/by

Forecasting Considerations

Many credit unions have started their budget and, similar to prior years, stress testing key assumptions should be an important part of the budget process.

Last year, we emphasized the importance of testing out different rates of loan growth. While that continues to be an important stress test to perform, provision for loan loss (PLL) and potential pressure on the cost of funds may need special attention this budget season.

The past few years of historically low PLL could be coming to an end as many credit unions have used up excess reserves or taken on more credit risk. Credit unions should understand the sensitivity of earnings and net worth when testing different levels of PLL.

Another recent trend that could change going forward is a continued reliance on cheap non-maturity deposits to fund future loan growth. There is danger from both an earnings and liquidity perspective in budgeting for the same checking and regular share growth experienced over the past several years. More credit unions have started increasing deposit rates of late as share growth has slowed while loan growth has increased. We encourage credit unions to stress test their ability to handle an increase in deposit rates or pressure from the cost of funds mix changing to more certificates and money markets.

Stress testing continues to be a cornerstone in effective planning. The results of such stress tests can help ALCOs and boards better understand the sensitivity of the earnings and inform the credit union what it may want to do going forward.

/by

Stress Test Your Budget

,

Budget season is in full swing and with that comes putting your best foot forward regarding what could happen in the future. This is never an easy task whether you are budgeting for 2014 or doing a long-term financial forecast into 2015 and beyond.

In our work with helping credit unions through the budget process, we have found that testing “what-ifs” on key assumptions can be extremely valuable. Future loan growth is always an important assumption in budgeting. Many credit unions have struggled to grow loans, especially consumer loans, over the past few years. At the same time, many of these same credit unions are reporting significant loan growth over the past 6 months. As a result, some institutions are assuming this 6-month trend will continue into 2014 and beyond. Important questions come to mind, such as:

  • What kind of impact does this have to the forecast?
  • What if it does not come true?
  • What if the offering rates are lowered to keep growth up?

To answer these questions, we recommend testing the impact of different levels of loan growth and offering rates. Higher loan growth can help, but doing so at materially lower yields can hurt the institution. The last thing you want to do is work a lot harder to earn less money, without intentionally deciding to do so. The results of the stress tests can help ALCOs and boards better understand the sensitivity of the earnings and inform what the credit union may want to do going forward.

/by

Survey: Budgeting

Now that the budget is done, 2012 is closed and you have a chance to breathe…what is one thing you would change about the budgeting process? Please click here to answer our survey question.

/by

Budgeting For Loan Growth

In this uncertain economy, many credit unions are seeing loan growth come in below budget.  Others are experiencing loan growth that meets their budgets; however, they are still below budget on loan interest income.  Why?  Interest rates have fallen since their budgets were created and competition for loans has resulted in the credit union getting the loans at a lower rate than budgeted.

Example 1:

 

Can the credit union make up this revenue variance by making more loans?  Maybe, but as the example below indicates, the credit union would need to grow loans 25% over the budgeted amount to breakeven on loan interest income.  Many credit unions would feel this is not achievable in today’s environment.

Example 2:

If the credit union is not able to increase loan growth, then, all else equal, net income will fall short of budget.  However, all else doesn’t have to stay equal.  While cost of funds may be hitting a floor for some places, other credit unions still have room to move lower.  And operating efficiencies are key for surviving today and being successful in the future.  Remember, the point at which you address a problem is directly related to the number of viable options you have to solve it.  If you are in this situation, begin laying out alternative plans now to help achieve your desired level of income.

/by

Hot Money In Waiting

, ,

Many credit unions continue to see higher levels of deposit growth despite lowering rates—and even a rising stock market—as members choose safety and certainty over return.  While the flight to safety has been discussed at length, the gradual shift from CDs to share products has received less attention.

Over the past 6 to 12 months, many credit unions have seen decreases in CD balances with a corresponding increase in share balances, in addition to the increase in overall deposit balances.  Such a trend suggests that members are willing to park their money in a lower-paying share account rather than lock their money up in a higher-paying CD in order to have the flexibility to reinvest their money when a better alternative presents itself.  As a result, these balances could be hot money in waiting.

Credit unions should evaluate the change in their liability mix over the last year and consider how any shifts might affect their liquidity concerns, product needs and cost of funds going forward—especially in different rate environments.  Likewise, it would be prudent for institutions to incorporate this additional rate sensitivity into their modeling, particularly if a clear shift can be identified.  Modeling the hot money as 30-50% more sensitive than other share balances is a good place to start.

Whether the impact is large or small, the credit union will be better positioned to handle the reinvestment of hot money should it occur.