By Ray Birch
MUSKEGO, Wis.–Credit unions already feeling pressure on net interest margins are going to be feeling a margin crunch as the coronavirus pandemic causes rates to crater and lending to stall, leaving credit unions searching for places to invest deposits. One expert says while the outlook for investments likely remains muted, there are opportunities.
He also advises being careful about investing in “someone else’s problems.”
“We are looking at some severe market dislocations,” said QuantyPhi President Kevin Chiappetta. “Any market security, including U.S. Treasuries, is looking for the correct price in a market that is moving quickly. While this requires a little extra nerve, there are chances to take advantage of relative value changes. For instance, many instruments that are priced at a yield spread to Treasuries have seen some increases in that spread, making the relative returns higher than before the markets started the turmoil.”
Chiapetta said if a credit union has done its homework and created a plan to invest in a way that complements the loan portfolio, there are opportunities to enhance the performance.
“Liquidity, credit exposure and overall interest rate risk of the portfolio should be even more emphasized when dislocations like last week may create pressure to look outside of the normal risk parameters,” he told CUToday.info. “This isn’t the time to be a hero, but to stick to a well-thought-out strategy.”
An Inflow of Deposits
Credit unions should prepare now for an inflow of cash as some members take their losses and sell stocks with plans to park funds in a share account or certificate, and others arrive with the $1,200 checks expected to be part of the congressional relief legislation.
“We do expect more deposits as people become more nervous with the action of equity markets. At the same time, we should expect, and not be surprised, that for the near term loan activity is slowing down,” said Chiapetta. “That said, using the investment plan and maybe overemphasizing liquidity of potential investments is highly recommended. Many offerings of what might look relatively inexpensive are so because the current owner cannot sell at a reasonable price. When markets calm down and lending resumes again, you don’t want to be holding someone else’s problems. If we are truly holding investments until we can lend the proceeds, these have to be saleable at a price that makes sense.”
With the coronavirus pandemic has created one of the more unusual and challenging events in modern financial history, Chiapetta said never have the benefits of a clear, calculated plan been more clear.
Kevin Chiappetta
“As part of our regular analysis, forecasting income projections and price changes in several interest rate environments, including the current rate environment, is helping credit unions clearly understand expected financial performance. Knowing exactly what they need from free cash in today’s lower rate environment is something that was known before the market shocks and those who were prepared were able to take advantage rather than scramble after the fact.,” he said. “Those who have carefully measured financial performance and acted to perform in even the most unlikely scenario can rest assured that they are on track for better times.”
Not Too Late
Chiapetta added it’s not too late to refocus efforts, if needed.
“Cash balances are likely building again as depositors feel fear and flock to the safety we have always provided them,” he said. “If you are on the fence, seriously consider taking the time to develop a benchmark. Taking the time now can avoid the uncertainty of not knowing what to do next.”
Equally important is avoiding the “big mistake.”
“Trying to catch yesterday’s rate today will force us to investigate areas we would not have considered before,” stressed Chiapetta. “Taking on new risks, longer maturity, new credit risk, new structures, or other choices can be like trying to catch a falling dagger. We will be tempted to look at higher risks using a yield target rather than a balance sheet target. Now, more than ever, we need to focus on our mission. We aren’t here to outperform other credit unions’ investment portfolios. We are here to help our members get what they need. Providing a balance sheet that enables us to focus on our members by producing predictable returns in many rate environments and providing high liquidity comes first.”
QuantyPhi is a CUSO of Corporate Central.