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Keep Your Economic Engine Running

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Credit unions have been laser focused on fine-tuning their main economic engine – lending – and many have been very successful. Loan demand is strong and liquidity is tightening. After years of attention to the engine, it’s time to put that same level of focus on the fuel. Without affordable sources of funding, that big, beautiful engine could sputter and stall.

Fuel gauge on empty - reminder for credit unions to keep their economic engines running

More and more institutions are finding themselves tight on funding. Even if you have plenty of liquidity today, irrational pricing increases, triggered by tightening liquidity, mean you could have to raise rates significantly just to hold onto the deposits you have. Just like rising gas prices can take a bite out of your budget, having to pay premium prices for liquidity can take a chunk out of profitability. Now is the time to think about where affordable funding will come from, before you’re forced to throttle back on your lending engine.

This makes a great strategic thinking exercise. To help prepare, think through:

  • What could we do?
  • What are we willing to do?
  • What can we do today to prepare?

The stage is already set. Liquidity is tight and getting tighter. Deposit rates are just beginning to rise. Consider adding some of the following scenarios to your exercise:

  • Competitors increase rates enough to steal away some of your deposits
  • Amazon is successful in launching a branded checking account service
  • Square Cash, which recently started allowing users to direct deposit their paychecks into their Cash app balances, significantly slows new checking account growth

In thinking through the possible responses, you must go beyond rate alone. What else could you do to appeal to depositors? Is it enough to keep them from going elsewhere? Be brutally honest. What can you do to make your products truly engaging? Should you use rewards, goal setting and tracking, and gamification?

Keeping your lending engine running at top speed will require focus on affordable and ready fuel. Put your credit union in a position to seize future opportunities by thinking through and preparing for the possibilities now so you don’t have to pull back on the throttle later.

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Strategic Budgeting/Forecasting Questions: Consider Key Forces

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This is the third entry in our 6 blog series about Strategic Budgeting/Forecasting Questions.

Question 3 – What key forces could impact our forecast?

Every good forecast should have a sound rationale and basis for the assumptions. If the current forecasting approach involves simply taking last year’s growth rates and assuming they continue, that will not be good enough going forward. A better approach is to identify key forces that could impact the budget/forecast and use this discussion as the rationale for the forecast assumptions.

It is important to understand that both internal and external forces have the ability to impact the forecast. Internal forces are largely driven by the strategic plan and initiatives set forth by the credit union, as well as the ability to execute (see the first and second blogs in this series for more).

Then there are external forces that have the ability to act as headwinds, which put pressure on the strategy, or tailwinds, which help move the strategy forward. The focus here will be on external forces. What is going on in the world around the credit union that could impact the forecast?

Start by getting decision-makers into a room and brainstorming different external forces that could impact the forecast. The list of forces can be quite extensive, so go through a process of prioritization. Group the ideas into two separate categories, headwinds and tailwinds as seen in the table below.

External Forces

The value is always in the discussion.  Take the top headwinds and tailwinds, study recent trends, and use this business intelligence to inform your forecast assumptions.  Take the potential auto sales headwind as an example.

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Source: macrotrends

Study historical data and discuss as a group. Auto sales have accelerated from 2010 to 2016. More recently, they have slowed. This trend should be incorporated into the forecast, especially on how it might impact the credit union’s strategic initiatives.

What about real estate? Are home values a key force that could impact your real estate lending and ultimately the forecast? Using the S&P CoreLogic Case-Shiller or another market source, decision-makers can understand what property values are doing in the area. If your area has experienced price increases well above national averages and prices are now above previous peaks, maybe that leads the group to assuming a slight decrease in new volume.

The combination of identifying key external forces, studying history, and having a discussion will better inform the forecast. Continue to use the what-if capabilities of your forecasting model to stress test the financial impact of changes in key market forces. Following this process will help decision-makers understand how external forces can impact the financial direction of strategic initiatives.

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Focusing on Branch Profitability, Solely, Misses the Mark: 4 Things to Consider

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As consumers’ preferences continue to evolve, it is becoming painfully clear that focusing solely on branch profitability will provide an incomplete or even misleading picture for decision-makers.

Think of it this way.   Traditional branch profitability analyses often reward branches for living off the past. 

Consider a branch that has a large loan portfolio, creating a lot of revenue, ultimately leading to today’s high ROA for that branch.  However after taking a closer look, it may turn out that this branch hasn’t produced many loans over the past year.  In fact, they are one of the lower ranked branches in terms of loan production.  However, the high ROA shown in a traditional branch profitability analysis is the result of living off loan production from years ago.

Evaluation in terms of current ROA alone may result in missed opportunities to realign resources today in order to have intentional focus on strategic objectives and evolving trends.

The following outlines 4 things to consider that is guaranteed to enhance business intelligence with respect to delivery channel effectiveness.

1.  Expand the evaluation to all delivery channels.  Credit unions are investing heavily in self-service options for members.  Effective adoption of these options is key to remaining relevant for many credit unions.  A focus during on-boarding has proven to help with adoption and engagement of new self-service options

2.  Align measures of success for each delivery channel with the credit union’s strategy.  This requires decision-makers to be intentional about the purpose of each branch, the contact center, and digital delivery channels

3.  Take a holistic approach to metrics.  Rank them to align with the credit union’s strategy.  For example:

  • Membership Growth
    • Not all growth is created equal.  This can be evaluated by segments if there is a strategic emphasis on the type of membership growth
    • Assigning indirect autos to the closest branch can significantly skew results.  Consider evaluating and managing the indirect channel as a stand-alone delivery channel
    • The same holds true for membership acquired digitally.  If a branch is credited, decision-makers will not have clarity with respect to the effectiveness of their digital delivery strategy or the physical branch
  • Value-Add vs. Routine Transactions
    • Work with your team to distinguish value-add from routine transactions, then rank delivery channels accordingly.  For example, many are revamping branches to remove routine transactions so that value-add and complex transactions can be effectively and efficiently handled.  In this case, the metric would evolve around reducing routine in-branch transactions and increasing value-add transactions
  • Member Engagement & Feedback
    • Comprehensive delivery channel evaluations should incorporate what the members are saying about their experiences with the different touch-points.  Credit unions are investing heavily in digital delivery.  It is not uncommon to hear that member satisfaction with digital delivery is lower than that provided in branches.  If this is true for your credit union, ask yourself how this can impact member engagement and how the gap in member satisfaction can be narrowed
    • If the credit union has strategic emphasis on particular demographic segments, consider establishing metrics that align with this focus
  • Loan Growth
    • Rank current balance, short-term, intermediate-term, and long-term performance independently.  This addresses a common flaw of profitability studies that can focus too heavily on older loans
    • Rank major segments of lending by balance and recent production.  This provides an early warning if production is falling off
  • Share Growth
    • Consider category evaluations.  Delivery channels that rank high for regular shares or checking may benefit the credit union differently than those with a heavy reliance on money markets or CDs

4.  Weighting Is Key

  • Each of the above can be important to monitor, but not all of them will contribute equally to the credit union’s performance or strategy.  Consider the credit union’s strategic objectives and then use these objectives to help weight the importance of each category.  This intentional view of production and member experience, connected to strategy, creates better business intelligence for decision-makers than a traditional branch profitability analysis

Having a broader understanding of delivery channels in terms of contribution to strategic objectives and the trends exhibited is the first step.  This can then be combined with profitability estimates if desired.

As the financial services industry becomes more complex, it is important for decision-makers to have the right type of business intelligence so they can take action and make necessary course corrections, timely.

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Back In The Subprime Game

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In a recent issue of the Wall Street Journal, Lewis Ranieri—once known as the father of mortgage finance—said it is time for nontraditional lenders to enter the market, bringing with them a return to subprime lending.  Ranieri said “the pendulum has swung too far in the other direction,” meaning that lending standards were once too loose and are now too rigid.

The implosion of subprime loans four years ago set off a domino effect that continues to impact global economies today.  As financial institutions struggle to regain their footing, lending opportunities have narrowed for all but the most creditworthy applicants.  Yet lending is a material source of income that could help financial institutions to recover and thrive.

The collateral damage from this recession varies by state.  If your credit union is ready to loosen underwriting standards—even if you stop short of subprime lending—it will be important to strategically plan for all variables involved.  The scars earned in the current economy should serve as a sufficient reminder to avoid being burned in the future.

(Sources:  Pioneer to Revisit Subprime, WSJ, 6/24/11 and Image by Bart Claeys)

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Lacking Consumer Confidence and Lending

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In spite of recent signs that the economy may be turning around—including a 0.3% increase in real consumer spending in January to the highest level since May 2008—consumers still don’t seem to be buying a strong recovery.  February’s present situation index, which serves as an indication of how consumers are feeling with regard to the economy, hit a 27-year low (not since 1983) of 19.4 (Consumer Confidence Tumbles in February, CNNMoney.com, 2/23/10).

The lack of consumer faith in the economy can be seen across the lending landscape:

  • Banks in the U. S. posted their sharpest decline in lending since 1942 as of year-end 2009, dropping about 7.4%  (Lending Falls at Epic Pace, The Wall Street Journal, 2/24/10).  Credit unions experienced only modest loan growth of about 1% according to the NCUA
  • In the 4th quarter 2009, revolving consumer credit decreased at an annual rate of 13% (Federal Reserve Statistical Release G.19, 2/5/10).  In January, the trend continued as consumer credit dropped for the 11th straight month
  • With regard to mortgage lending, existing home sales dropped 17.7% in December 2009.  Even with the extension of the government homebuyer tax credit, existing home sales dropped again in January another 7.2% to a 7-month low (Existing Home Sales Fall, Market Watch, 2/26/10)

It appears consumers are feeling even worse than when the economic collapse was in motion and that the “economic recovery” is still shaky.  How soon can credit unions expect a sustainable increase in their members’ loan appetite?  What can be done in the interim?  It is essential for credit unions to continue to focus on what they can control and to perform in-depth evaluations of their business models—making appropriate changes, timely.