By Ray Birch
IRVINE, Calif.—As the New Year arrives, many credit unions are looking forward to a better bottom line in 2021, thanks in large part to provisions set aside in 2020 for anticipated loan losses that never arrived. But they are also being cautioned the “one-time event” isn’t a salve for not taking other steps.
“Credit union delinquencies now are lower than what the banks are seeing,” pointed out Bob Child, COO for Origence. “The credit unions that we have spoken to say less than 3% of their auto loan borrowers were requesting forbearances at the peak point of the pandemic, so that number that many expected to be high is way down now. And many credit unions were putting up just amazingly high reserves, not knowing how many of these forbearances were going to have to be made. What I'm hearing is borrowers are actually back to paying again. That could lead to a more profitable year next year for credit unions.”
Child further observed credit unions headed into the pandemic in a better place with delinquencies.
“In the fourth quarter of 2019, many credit unions expected they were going to face a recession in 2020. So, they were tightening their credit standards both on FICO scores and LTVs,” recalled Child. “This had nothing to do with COVID. But it was a good thing from the perspective that they were ready for what happened with the pandemic, being a little more conservative.”
Bob Child
A Fresh Memory
What may have led many credit unions to sock away a lot of extra cash in their loan loss provisions, suggested Dallas-based ALM First, was having the Great Recession not too far back in the rearview mirror of many executives.
“Given the global pandemic, losses this year are not nearly as bad as expected for credit unions,” agreed Alec Hollis, managing director, ALM strategy group at ALM First. “In fact, they have declined. Not just losses, but delinquencies as well. As of the third quarter, net charge-offs have ticked down for credit unions, with the industry loss ratio at 0.38%, lower than the 0.55% rate in the third quarter of last year.”
Total CU delinquent loans—more than 60 days past due—stood at $6.37 billion, down 12.7% over the past year, Hollis said.
“Even as charge-off rates and delinquency rates remain muted, credit unions are holding significantly higher amounts in reserves, surpassing the figures reported during the Great Financial Crisis,” Hollis said.
Currently, reserves as a percentage of non-performing assets are 184%, compared with just under 80% in the third quarter of 2007, just prior to a significant spike in delinquencies and loss rates, Hollis explained.
Also Worth Noting
“It should be noted that due to the new accounting treatment under Current Expected Credit Loss (CECL), reserves are for ‘life of loan’ versus the previous standard, which booked losses for the next 12 months,” Hollis said. “Additionally, cash levels have reached record levels. Cash and cash equivalents as a percentage of assets peaked at 12.26% in the second quarter of 2020, and recently dipped to 11.71% in the third quarter, a year-over-year increase of 56%.”
Moreover, forbearance plans at credit unions continue to taper off, declining by 650,000 from the first week of October to the final week of October, a reduction of 18%.
“Now, there are just under three-million active forbearance plans remaining, down significantly from the peak in April, which had over 4.5 million active plans,” explained Thomas Griswold, managing director, advisory services at ALM First. “Further, forbearance plan extensions have declined, while forbearance plan removals spiked in October. An additional one million of active forbearances are scheduled to expire by the end of December.”
Griswold said client feedback to ALM First generally confirms industry trends, as many credit unions say they have not experienced the losses they had projected earlier in 2020.
Kicking the Can?
Thomas Griswold
“Some institutions are still a little concerned that the forbearance programs are ultimately kicking the can down the road, but the recent stimulus bill may reduce concerns about future credit losses,” Griswold said.
With the likelihood of actual losses remaining below projections, Griswold said the forbearance programs appear to have been helpful.
“With lower delinquency rates than expected, hopefully in 2021 there will be flexibility for institutions to manage their provisions to protect net income,” he said.
A Word of Caution
Bill Handel is hearing much of the same from Raddon credit union clients.
“Our clients experienced only very minor increases in actual loan losses through three quarters, but part of that is that loan forbearance programs had not all ended,” said the SVP of research at Lombard, Ill.-based Raddon. “We do believe that loan losses will not be nearly as significant an issue in 2021 as they were following the Great Recession. The Great Recession was driven by losses in the real estate portfolio. We are much less likely to have this experience in 2021. Residential real estate markets are very strong.”
With large loan losses increasingly unlikely, according to Handel, that excess allowance must be returned to credit unions’ bottom line in the form of a negative provision.
“So, yes, it appears that many credit unions are poised for strong income performance in 2021,” Handel said. “However, that negative provision is a o
Bill Handel
ne-time event, and credit unions who rely on that as opposed to improving non-interest income, operational efficiency or margin management in the low-rate environment may find themselves in a challenging position come 2022.”
Another Word of Caution
Steve Williams, president and partner at Cornerstone Advisors, Scottsdale, Ariz., told CUToday.info his firm is also hearing from client CUs that loans have performed better than expected.
“Forbearance levels have dropped substantially with very manageable delinquency coming from that segment. Most expect reduced provisions to be added next year compared to this year because of the level of allowance existing today,” Williams said.
However, CUs must be prepared for economic shifts, he cautioned.
“At the same time, credit union management teams have warned their boards that if a second shoe drops, another recession, things could change quickly,” Williams said. “All are hoping the vaccine will allow for more of a return to normal in the second half of 2021. Large industry segment jobs—travel, restaurant, retail, entertainment, sports—are still very fragile with the second wave of lockdown restrictions.”