ALPHARETTA, Ga.—Do liquidity and market risk pose the greatest long-term threats for CUs?
One analyst asserts that’s the case, citing NCUA’s January release of its supervisory priorities for 2025.
“The guidance is important for credit unions as it highlights the areas posing the highest risk to members, the industry, and the National Credit Union Share Insurance Fund,” said Robert Colvin, president and chief strategist at CU Capital Market Solutions.
Colvin noted that in the agency’s release, NCUA noted:
- There continued to be signs of financial stress on credit union balance sheets during 2024. Aggregate loan performance began to deteriorate in 2022, and the trend continued through 2024. The overall loan delinquency rate is currently at its highest point since 2013. The rolling 12-month net charge-off rate is at its highest point since the second quarter of 2012.
- The return on average assets continues to experience pressure from the interest rate environment and the provision for loan and lease loss expense. Even considering these trends, the credit union system remains stable and relatively resilient against economic disruptions.
With that economic landscape in mind, Colvin noted NCUA’s primary areas of supervisory focus for 2025 are:
1. Credit risk
2. Balance sheet management – liquidity and market risk (IRR)
3. Cybersecurity
4. Consumer financial protection
“While all four issues are important supervisory priorities for 2025, it is my opinion that liquidity and market risk pose the greatest long-term risk for credit unions, extending well beyond 2025,” Colvin said. “Due to a structural mismatch between the maturity of credit union funding sources and their asset commitments, credit unions are significantly exposed to both earnings and liquidity risk. This risk will remain until the industry makes a fundamental change in their IRR strategy.”
Large Mismatches
Citing NCUA’s Examiners Guide, Colvin pointed out NCUA states that with liquidity and IRR, large mismatches between liability maturities and asset maturities cause:
- Greater earnings exposure to changes in interest rates
- Reduced market liquidity (when declining asset values are pledged to secure funding or if the decline in market value would cause the credit union to take a loss if the asset is sold)
Robert Colvin
“So, how mismatched are the assets and liabilities in the credit union industry? According to the Q3-2024 Callahan data for all federally insured credit unions, about 70% of all shares and deposits are eligible to leave daily,” Colvin explained. “An additional 23% mature or reprice within one year. In total, 93% of the funding is replaceable over a 12-month horizon. Only 1.6% of all shares and deposits have a maturity greater than three years.”
In contrast, about 50% of all earning assets (real estate, commercial loans, new and used auto) mature or reprice at a date greater than three years while about 25% mature or reprice in less than one year, Colvin noted.
“Obviously, each credit union is different, but the average results are telling,” he said. “The industry is short funding long assets, and this has never proven to be a good strategy. This has led to trouble since the beginning of banking. For example, the S&L industry failure in the 1980’s or the demise of Lehman Brothers in the mortgage crisis and more recently Silicon Valley Bank.”
Reduce Exposure
Colvin pointed out the NCUA Examiners Guide clearly states: “Large mismatches between asset and liability maturities cause both earnings exposure and declining asset values, which result in both liquidity and IRR problems.”
“So, how does one reduce this exposure? Should one shorten assets or lengthen funding sources? Increasing the amount of term funding (greater than three years) seems to be the best solution as it has multiple benefits: It secures a stable base of funding, reduces earnings exposure and offsets the IRR of longer assets,” Colvin said.