By Ray Birch
WASHINGTON—While there is a growing fight for deposits among many financial institutions that has pushed up rates on certificates, it has come with a twist—credit unions have not been losing net interest margin as part of the battle. But there is a potential risk lurking.
For now, net interest margin among credit unions has been increasing over the last 18 months, periods of which have been marked by rising rates.
Sam Taft, AVP, analytics and business development, at Callahan & Associates, told CUToday.info that credit union net interest margin rose eight basis points in Q1 to 3.12, driving ROA up to 0.95% despite the jump in the cost of funds from higher-rate deposit offers.
Taft’s report runs counter to what some experts have stated this year, that CUs should see margins compress as they raise deposit rates to attract money to support loan demand, while they are slower to pull the trigger on higher loan rates.
Taft said credit unions were not mistaken in thinking margins would grow tighter, and suggested spreads could still compress should rates start rising again. But that remains uncertain now, with some analysts now believing the Fed will move to reduce rates at some point this year.
The Role of Auto Loans
“The spread is not tightening at the moment, but it might in the future,” he said. “Credit unions have been able to reprice their loan portfolios much faster than they price their deposit portfolios. And the reason for that is the average credit union loan portfolio is comprised of about 35% auto loans.”
Taft said data show the average auto loan life is 2.5 years.
“Those loans are being drawn off quickly and credit unions are able to re-originate auto loans at a higher rate now,” Taft said. “If you compare the size of the auto loan portfolio to the portion of the deposit portfolio you are now paying a higher rate on, those deposits represent a much smaller total. Credit unions have been able to see some margin expansion recently, and it's because you're seeing really strong loan interest income and investment interest income.”
With credit unions now pushing higher-rate CDs, Taft acknowledged the pricing decision is in contrast to the often rock-bottom rates credit unions were able to offer during the recession and several years afterward. He said in the first quarter of 2019 credit unions saw an 18.0% increase in share certificates, which drove overall share growth to 5.8%.
Not Just About Core Deposits
“That is a diversion from what we saw post-crisis, over the last eight years,” said Taft. “Until fairly recently, credit union deposits were growing largely due to core money—share drafts, regular shares very low-cost sticky and good relationship building funds. But in this type of environment, if you need liquidity quickly, certificates are probably the easiest way to do that.”
Despite a strong first quarter for credit union deposits—and Taft noted Q1 is always the strongest quarter of the year for deposit growth—he said credit unions are facing liquidity issues.
“Liquidity has been tightening,” Taft said. “Credit unions’ loan engine has been running pretty strong for about five years, so loan-to-share ratios have been consistently moving higher. That's just the reality.”
Loan-to-Share Ratio Decreases
Taft said after the strong first quarter for deposits, credit unions’ loan-to-share ratio is 82.3%, down from 85.5%.
“We are seeing deposit growth pick up on an annual basis; that is a good thing,” Taft told CUToday.info. “However, if you look at the dynamics between that and the growth rate of the loan portfolio—what credit unions are bringing in and how much they are lending out—you're still seeing a deficit there. Credit unions are still lending out more than they're bringing in and liquidity continues to tighten.”
Taft noted not all credit unions are turning to high-rate CDs to bring in dollars and are looking instead to explore other avenues for short-term borrowing.
“But this is all based on the philosophy of the institution,” he said.
The Cannibalization Risk
For those whose strategy is based on obtaining certificates, Taft said there is always the risk higher rates will lead to cannibalization of existing, lower-cost deposits. He described the scenario as an “increasing concern.”
Taft said Callahan & Associates has seen credit unions addressing the risk of cannibalization in different ways. One approach, he said, is stipulating the higher-rate special is only for new money, although that can alienate members with existing deposits. Other CUs are reworking deposit products, including money market accounts, which Taft said can have a significant impact on cost of funds.
“Some credit unions have been going with tiered pricing for their MMAs,” he said.
What may also be an issue for credit unions as they battle for deposits is the lack of familiarity among staff with having to find ways to effectively attract deposits.
A Skills Challenge for Staff?
“For the most part, credit unions have not had to focus on attracting deposits for a very long period— during and after the recession. So there might be some stumbling now,” he said. “If you are fairly young, and you joined the staff at the credit union in the last ten years, you may have never had to really work at attracting deposits, so there's a learning curve involved.”