By Ray Birch
LOMBARD, Ill.—Credit unions are being very conservative in addressing one of the biggest questions facing them for the second half of the year: how much to provision for loan losses, according to one analyst, who holds an optimistic view the economy will rebound soon enough so CUs will eventually be able to release back some of those funds.
In the meantime, credit unions will struggle to address margins that are expected to shrink even further, just as many members will struggle with their own monthly payments, said Bill Handel, SVP of research at Raddon. In the face of all that, however, Handel is offering some reassurances credit unions should not be overly concerned over significant future loan losses, saying he does not expect delinquencies and write-offs to be nearly as severe as those suffered during the Great Recession.
“Those losses, during the Great Recession, were largely mortgage based. And often each of those losses was a big number,” said Handel. “Ten years ago, there was a fundamental problem in the mortgage market, and we don’t have that same situation today.”
Handel’s insights are part of a week-long series in CUToday.info exploring different scenarios for which credit union leaders must be prepared in the second half of the year.
‘Entirely Different Places’
Looking to the latter half of 2020, Handel is forecasting the losses credit unions do see will come more from automobile loans, credit cards and other consumer loans.
“Comparing the Great Recession to today is interesting,” said Handel. “From an economic standpoint, where we were before COVID-19 hit in the U.S. and where we were prior to the Great Recession are entirely different places.”
Leading into the Great Recession, consumers were “extraordinarily” over-leveraged, Handel emphasized.
“There was an excessive amount of debt, and specifically an excessive amount of debt tied to real estate,” he said. “The Great Recession lasted for a very long time—about 18 months. It just took consumers a lot of time to finally climb out of that very significant hole. In my mind, the biggest difference between then and now is that we went into this COVID crisis with a reasonably healthy economy and debt levels were not all that elevated. I don't think anything can be truly known about what is ahead because things are just so fluid, but generally speaking we're more primed to come out of this faster than we were with the Great Recession.”
A Surprise
As an example, Handel pointed to some significant recent improvements in the economy, driven in part by auto sales.
“It was a bit surprising to some people,” said Handel referring to a rebound in vehicle sales in May and June following the sales nosedive during the second half of March and in April as consumers hunkered down with stay-at-home orders in place. Car sales in the last month were still at about 75% of their pace pre-COVID, but they had come back nearly 40%, Handel added.
“I think we're going to see, economically, a pretty tough second quarter, when the numbers come out, and everyone will kind of turn green,” said Handel. “We may see a 15% decline in GDP and we could even see more, potentially, because April was so devastating. But the reality is this recession may be the shortest in economic history—actually a three- or four-month recession. The National Bureau of Economic Research is already indicating this recession began in February, and when everything is said and done they may say it ended in May, because we actually saw growth. And, technically, there may be questions raised as to whether this was a recession at all, because you need two consecutive quarters of negative GDP.”
Handel emphasized he is not trying to be “Pollyanna-like” in his outlook on the economy.
“But I'm trying to put some things into perspective,” he said.
‘Another Factor’
Handel also pointed to the 21% jump in existing home sales in June over May. And, as CUToday.info reported, new home sales in June jumped to pre-COVID levels.
“That's obviously driven by low rate, but it also points to another factor,” explained Handel, saying a large portion of those who have lost their jobs are young. “There are many people still very much gainfully employed who are looking to buy houses and cars. I think that will continue to drive us forward. And while the C
Bill Handel
OVID-19 situation is unpredictable, I would say I am more optimistic than pessimistic.”
Handel predicts the third quarter will be fairly strong, due largely to the big drop-off in consumer spending in the second quarter.
“The fourth quarter will continue to be good,” said Handel. “Having said that, here's the bottom line: It's still probably won’t be until late 2021 or even into 2022 before we get back to the levels of GDP output prior to the pandemic. It’s just too big of a hole to climb out more quickly.”
A Hole to Climb Out Of
Credit unions, acknowledged Handel, have a hole to climb out of as well, as they have been sacrificing income to help members during difficult times. But Handel does not have big concerns about CUs making that climb.
“I always think this there's a reason that we have such high levels of reserves, and this is one of the reasons—a black swan event,” said Handel. “It’s clear there will be an impact on earnings, and all credit unions will show this year that they did not reach the goals they had set out at the beginning of 2020.”
Handel is additionally confident credit unions will make their way through the loan losses that will likely ramp up later this year, due in part to their conservative nature and to reserving for larger loan losses than what will likely be needed.
Lower Losses
The losses from the COVID-19 downturn won’t be nearly as great as those suffered by CUs during the Great Recession, argues Handel.
“The previous recession was driven by real estate defaults, and every time you take a hit on real estate it has a huge impact in terms of your provisions,” noted Handel. “Realistically, we’re not going to feel the same impact on real estate this time. But my sense, again, is credit unions are being very conservative now.”
For all those reasons, Handel emphasized he does not thinks CUs are over-provisioning.
“But they are expecting the worst,” he said. “In talking with credit unions they say they just don't know, so there they're setting aside more money than they may eventually need. And when we get through all this, credit unions will be able to release some of those provisions, which will be a big boost to earnings.”