Editor’s Note: This column first appeared on ChipFilson.com and appears here with permission.
By Chip Filson
I’m afraid I must rant again about NCUA’s management of the NCUSIF investment portfolio.
From the most recent posted financials as of February 2024, the Investment Committee appears to have learned nothing from the past two years of the Fed Reserve’s short-term rate increases.
The Committee bought a $650 million Treasury bond yielding 4.26% with a final maturity of six years and three months on Feb. 15.
The investment extended the NCUSIF’s duration, increased the portfolio’s interest rate (IRR) risk, and reduced short term liquidity. The term portfolio (75% of the $22.5 billion total) is underwater by $1.3 billion and yields just 1.44%. The Fund’s overnight position in contrast earned an average yield of 5.41% in February.
This new term investment reduces income versus rates available at the short end of the curve by at least 1%, or $6.5 million per year, until the Fed decides to change course.
Here are the Treasury rates as of Wednesday April 3, 2024 from CNBC Pro, Stocks at Night:
Bond Yields Above 5%
- The U.S. 1-month Treasury bill is now yielding 5.36%.
- The U.S. 2-month T-bill is also now at 5.36%.
- The U.S. 3-month T-bill is at 5.35%.
- The U.S. 6-month T-bill is at 5.31%.
- The U.S. 1-year T-bill yield is now back above 5%, hitting 5.044%.
- The U.S. 2-year Treasury note is yielding 4.67%.
Ignoring Investment Fundamentals
This decision ignores the IRR lessons from the more than two years of Fed rate increases. The negative consequences of this investment pattern on the earnings and liquidity of the portfolio during this time have been enormous. Moreover, in recent board updates, staff said they made no change in their investment policy.
Those policy assumptions fail to adjust to not only events of the past two and one-half years creating this ongoing underperformance; it is oblivious of the history of the Federal Funds rate.
One Analyst’s View
Here is an analyst’s review of this rate experience in a recent update by this longtime observer and consultant to financial service firms:
Since the inception of the Fed Funds Overnight rate in 1954, the average and median have been in the 4-4.5% range.
If you entered the industry after 2009 then you probably didn’t know this. Your “normal” was a Fed Funds rate in the 0-2% range and you probably think the sky is falling with the current rate at 5.33%.
The implication of a low Fed Funds rate since 2009 was that you could only survive by making loans, because there was very little spread to be had between deposit cost and investment yields.
The Need for Leadership
As NCUA staff repeats its past misjudgments, one would hope the board had the ability to ask relevant questions and, more importantly, documented policy plans and goals. This is what any examiner would require of a credit union with this continuing record of a $17 billion investment portfolio yielding 1.44%.
The current practice/policy increases the portfolio’s interest rate risk, provides no weighted duration goal based on the earnings requirements of the fund, and shortchanges the credit unions that should be receiving dividends from their performance during these last five years of minimal insurance losses.
Reviewing the NCUSIF history since 2009 shows that a portfolio yield of 2.5-3.00% would provide a stable NOL after all costs and growth assumptions. Returns above that would give credit unions a return on their collective investment—a public commitment when the NCUSIF was redesigned with industry support.
One Example
Here for example is the published forecast from the August 1985 NCUA News (page 3) the year following the Fund redesign:
- An estimated 6.8% dividend has been projected for the federally insured credit union deposits in the NCUSIF based on the Fund’s performance as of June.
- The estimated dividend is part of an overall program of reporting to the NCUA Board and to credit unions on the Fund’s activities. The dividend forecast is updated each month. Office of Program Director D. Michael Riley noted that he expects the fiscal year dividend to be in the 6.5% to 7% range.
No Muscle or Memory
The core problem is that the board and staff have lost all the “muscle-memory” demonstrated by prior agency leadership when projecting dividends. The dividend was and is the key success factor that separates the NCUSIF from all other federally managed deposit funds.
A 5% NCUSIF portfolio yield would result in total revenue of more than $1.0 billion and a substantial return for credit unions. Current NCUSIF investment policy and practice shortchanges credit unions and mismanages the most important asset under NCUA’s administration.
The only advantage this six-year-and-three-month investment has is for the three board members, whose terms will have expired before the investment does. So. they won’t have to explain how the same oversight error increased the NCUSIF’s portfolio risk while reducing its earnings for credit unions.
In short, this NCUA board has no memory let alone muscle when it comes to overseeing the NCUSIF.
Chip Filson is a co-founder of Callahan & Associates and well known within credit unions as an author, frequent speaker, and consultant. Filson also previously served as president of the Central Liquidity Facility (CLF) and Director of the Office of Programs at NCUA. For more info: www.chipfilson.com