As the weather threatened to cancel a particularly awkward family reunion of mine, my Uncle John famously shouted out “It looks like a storm is coming! Everyone! Get under a tree!”. We all stood laughing as he sprinted away from the volleyball courts towards the tree line.
Clearly not the best advice, unless you know which tree(s) the lightning is most likely to strike. In this example, the NCUA is the lightning, and The 2014 Supervisory Focus gives detail on which trees they plan to strike. It may have been silly to follow my Uncle John to the trees, but it would be equally silly not to heed the NCUAs warning.
Let’s look at some excerpts from the report:
Interest Rate Risk
It is imperative for credit unions to make the necessary adjustments to account for a rising rate environment.
Rising rates have a ton of adverse impacts on your credit union. I have always thought the least significant of these were the changes in Net Economic Value. If you held your loans and investments to maturity, there may be opportunity costs but as long as your duration of assets and liabilities were comparable, it should remain positive. But, what if rates go up. Then, as a result of the new Risk Based Capital Requirements, you’re pressured to liquidate a large portion of your fixed rate mortgage portfolio? Even if the sale improved your Risk Based Capital, operationally it would force you to realize a huge loss you had never planned to realize.
Absent the effects of having to liquidate a portion of your fixed rate/income portfolio, a couple of other effects to consider:
- Payments on variable rate mortgages will go up, causing defaults to increase.
- Purchasing power will go down, putting pressure on home values. For example, at a 4% interest rate over 30 years, a mortgage payment on a $200,000 home would be about $955. If that interest rate rose to 7%, a $955 monthly mortgage payment would only buy you a $144,000 home. That’s almost a 30% decline in value.
So in summary, interest rates rising will lead to realized losses on asset sales (although it is regulation that will cause this), increase charge offs and decreased recoveries. Sounds like it is worth supervising.
Private Student Loans
Private student loans are the fastest growing product in the credit union industry. Defaults may not appear on the books for the first four years… NCUA field staff will evaluate each credit union’s student lending plans, policies, controls and third-party due diligence. Credit Unions offering student loans through third parties must carefully investigate the originators and any insurer as well.
Couldn’t agree more. The size of the industry is growing and there is no market more uncertain.
- According to Bloomberg, college tuition has increased by 1,120% since 1978.
- According to the U.S. Census, percentage of people with at least 1 year of college has increased by 195%. .
- That means total college spending has increased by about 2,200% (195% * 1,120%).
- Also according to the U.S. Census, median household income has increased by 242.5%
In summary, over 35 years the cost of a educating the average person is increasing about 9 times faster than the value of that education. That’s not speculative… That’s actual, and it isn’t sustainable.
Cyber Security Threats
Credit Unions of all sizes will be expected to implement appropriate risk mitigation controls – including vendor due diligence, strong password processes, proper patch management and network monitoring – to better prevent, detect and recover from cyber attacks
Cyber threats are real. They’re not speculative or uncertain. They happen. Technology is changing quickly and very few of us truly understand what’s going on. This creates opportunities for those who do understand it on both sides of the spectrum. My guess is that because your exam is not performed by programmers, you could make it through this portion of your NCUA exam while in actuality being in no way safe from cyber security threats. I would focus on true safety and soundness before worrying about NCUA guidance.
Money Service Businesses (MSBs)
Credit unions that maintain account relationships with MSBs, or are considering doing so, need to be aware of the potential risks involved – particularly with regard to money laundering.”
Money laundering is not my specialty, but my takeaway would be to not house money laundering schemes within your credit union.
The NCUA will typically accept a good-faith effort to comply with new rules and regulations. Setting these points out in advance of your exam gives you the opportunity to do so prior to their arrival.