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Record Low 10-Year Treasury Rates and Net Interest Margin

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On September 22nd, the 10-year Treasury Rate touched another historic low with a yield close to 1.7%.  This is a critical measure, as many credit union assets are priced off of the longer end of the yield curve.  There are many factors contributing to the low yield, including:

  • The Fed’s decision to sell some shorter-term debt and buy longer-term debt
  • The weak economy
  • The continued flight to safety (American debt looks relatively safe on a global scale)
  • The Fed’s stated intention to keep short-term rates low into the middle of 2013

So what does this all mean to a credit union’s net interest margin? All else being equal, credit union loan and investment yields will continue to decline while rates are low and the economy flounders.  Additionally, the ability to maintain the net interest margin becomes increasingly unlikely the longer we are in this low rate environment.  Deposit rates will hit a “floor” at some point.  Even if a credit union has room to lower deposit rates—and thus minimize the loss of asset yield today—that credit union will, by default, still be adding interest rate risk to the balance sheet.  Additionally, most credit union assets are fixed rate, and these low-yielding, fixed-rate assets will likely stay on the books for a while.  As a result of all these factors, credit union margins will be further squeezed and the potential for interest rate risk will increase.

Does your credit union have the ability to absorb more interest rate risk going forward?  Can your institution remain profitable 12 months from now if current trends continue? Now is a good time to try and figure this out, and take mitigating actions if deemed necessary.

Source: US 10-yr Treasury yield falls to lowest on record, The Associated Press, 9/9/11

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Chinese Rating Agency Downgrades U.S. Credit Rating

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Chinese rating agency Dagong Global Credit Rating Co., known in China for rating companies, recently issued credit ratings for 50 countries for the first time. (Dagong’s Report)

Below is an excerpt of the top 20 nations rated:

Perhaps the most notable was the downgraded AA rating given to the U.S.—two levels below the top grade.  While Dagong’s downgrade of U.S. creditworthiness hasn’t created the financial turmoil that Moody’s or S&P’s could, it has raised some interesting questions:

  • Why would Dagong downgrade a significant portion of investments owned by China?
  • What will China do with its current Treasury holdings given the downgrade?
  • How will the downgrade affect China’s Treasury purchases and holdings in the future?
  • Inasmuch as the downgrade has had nominal, if any, impact on U.S. financial markets thus far, will it have any influence at all on Western rating agencies?

As the largest foreign holder of U.S. Treasurys (around $868 billion as of May 2010 according to the U.S. Department of the Treasury), China’s response to these questions will have a significant impact on the U.S. economy.  Whether purchasing, selling or holding Treasurys, China influences the trajectory of interest rates here—which changes the economic conditions that businesses, including credit unions, must operate in.

So while Dagong and China may not be a daily consideration for credit unions, following developments in the U.S. Treasury market will be an important factor to business planning and exploring where interest rates will go.