Rising Rates, Falling Mortgage Lending Key 2014 Challenges
Managing credit unions in a rising interest-rate environment along with the pressure to write more consumer loans to offset falling mortgage lending will be key challenges to the credit union community this year, say top industry economists.
But less partisan fighting in Washington and an improving economy will make running credit unions easier in 2014, several economists predict.
Economists are pessimistic that the "Great Divide" between large and small credit unions—where CUs with $500 million in assets and above post most of the industry's growth—will change. One expert, though, sees the possibility small credit unions will benefit from the shift toward consumer lending.
Most weighed in with predictions on GDP growth, with 2.5% to 3% the range of opinions. A gradually strengthening housing sector and consumer spending coming back, along with a better outlook for jobs, are key reasons cited for the growth.
Many also agree that the Federal Reserve pulling back on its bond-buying program will not place a drag on the economy, particularly in the housing market.
"It won't have a tremendous effect, because the Fed will pull back gradually," said NAFCU chief economist David Carrier. "And, they will reverse [the pullback] if they see any signs of weakness in the economy."
But what CUNA chief economist Bill Hampel sees significantly contributing to economic growth this this year is Washington running more smoothly, unlike last year when the nation endured the sequestration and government shutdown due to partisan fighting.
"Had Washington not created fiscal headwinds, GDP growth could have reached 3% to 3.5% in 2013," Hampel said.
He said the economy is approaching "escape velocity. The tepid recovery that began four and a half years ago will build momentum. The economy will be strong enough to operate without the extraordinary government support it has been receiving."
NAFCU is predicting 2.6% GDP growth in 2014, buoyed by real estate continuing its comeback along with construction. "Retail sales should pick up as job losses go down," said Carrier, who still thinks the unemployment rate will be "sticky" this year.
Michael Moebs, economist and CEO at Moebs Services, Lake Bluff, Ill., sees a great deal of "uncertainty" in the economy this year, predicting the next 12 months may seem more like 2010, when the country first began digging out from the economic crisis of 2008-09.
What will contribute to a great deal of the uncertainty, according to Moebs, is the change at the Federal Reserve Board, with Janet Yellen likely to be sworn in soon as chairman, succeeding Ben Bernanke. Moebs is paying attention to what he believes will be Yellen's heavy focus on jobs.
"She will use classical Fed monetary policy to try to generate more jobs," predicted Moebs. "So we could see more GDP growth, but we could also see inflation take off."
Whatever challenges, or fair winds lie ahead this year, Dave Colby, chief economist at CUNA Mutual Group, Madison, Wis., says it will be difficult for credit unions to improve upon their 2013 performance with record membership gains and record loan originations.
According to CUNA Mutual Group's latest "Trends Report," CU loan growth climbed to 6.8% in October and membership was up three million for the year. CUNA third-quarter data showed credit unions' loan-to-share ratio rose to 69.7%, the highest level since yearend 2010. Net worth ratio advanced to 10.65%, up 15 basis points from the end of the second quarter, the highest level since the end of 2008.
What could make the year interesting, noted Colby, is managing credit unions in a rising-rate environment, which some experts say is already here. Hampel predicts the Fed funds rate won't rise until late in the year or sometime in 2015.
"When was the last time credit union executives really steered the credit union in a rising-rate environment?" asked Colby. "Number one this year, credit unions have to keep a firm hand on the ALM wheel."
The good news with rising rates, said Colby, is that spread income will be greater at the outset as long-term rates move first and short-term rates hold steady.
But there is no avoiding what rising rates will do to mortgage refinance business, economists note, taking borrowers out of the market as well as ensuing fee income. Colby also cautioned that it will be difficult for CUs to keep pace with last year's 11.3% auto loan growth that resulted in part from manufacturers pulling back on incentives.
CUNA is forecasting overall credit union loan growth to range between 6.5% to 7% in 2014. Colby, and others, see a bigger chunk of loan growth this year coming from consumer lending.
Colby suggested that credit unions ratchet up the loan-to-share ratio by 5 percentage points to avoid any issues with spread income that could arise, with a good portion of the lending increase coming on the shoulders of the bank converts.
"All of a sudden you have a heck of a lot more dollars in spread income," offered Colby. "We have three million additional new members this year—do something with them, and you also make sure they don't become an expense."
Colby suggested that CUs, in their messaging, leverage the threat of rising rates to get members to lock in credit card deals and other loan offers.
Hampel sees the rise in consumer purchases of durable goods fitting in well with credit union's need to increase consumer lending. "Next year will be a continued shift away from mortgage lending, and the overall mix of mortgage and consumer lending will come closer this year to being in balance."
That shift, said Hampel, will at least make an impact in the Great Divide that exists among large and small credit unions.
According to CUNA Mutual Group's latest Trends Report, more than 40% of all CUs (holding 16% of industry assets) reported negative loan growth between Q3 2012 and Q3 2013, including half of all CUs with $50 million or less in assets. Similarly, more than 80% of loan growth was derived from the 500 largest credit unions—just 7.4% of all CUs.
"Most of the strength in earnings in 2013 resulted from mortgage refinancing, an activity that is concentrated in larger credit unions," Hampel said.
Hampel sees net interest margin rising for credit unions because net interest margin bottomed in the latter half of 2013. Hampel expects the margin to rise because consumer loans will grow faster than deposits this year. CUNA expects deposit growth to hit 5%, the same growth pace as in 2013.
"I am not saying it will be peachy keen for small credit unions in 2014, but they rely much more on net interest margin than big credit unions," noted Hampel. "And consumer lending is what small credit unions do best."
But Moebs is not so sure consumer loans will outpace deposits with Yellen's focus on creating jobs.
"The credit union movement cannot afford to increase deposits at a growth rate that is anything less than half of what they can grow net worth," said Moebs. "Credit unions have to be extremely careful about every dollar of deposits they take in, and that applies to the very small all the way up to NAVY FCU."
Moebs warned that CUs, too, won't be able to lean on bulging loan loss reserves to prop up profits, as has been the case with many in the last few years.
This will be the year, insisted Moebs—with the threat to overdraft income and falling interchange—when credit unions charge more fees to drive the bottom line, tying fees to relationship pricing.
All possibilities considered, and economists' advice aside, Hampel summed up where CUs and the economy are headed in 2014: "After a year that clearly signaled things are improving, we will build on 2013's results."