How credit unions can manage liquidity risk in 2024
Credit unions are facing challenges related to liquidity risk management in today’s interest rate environment. They got comfortable with abundant and cheap liquidity during 2021 and 2022, but things changed quickly.
From October 2021 to January 2023, the two-year rate on the daily U.S. Treasury yield moved from 0.27% to 4.40%. Rates have continued to stay elevated throughout 2023 and the start of 2024. The higher rates have had various impacts on credit union balance sheets, including spoiling the cheap liquidity.
Competition for shares increased, leaving some credit unions feeling a liquidity squeeze. As market rates increased throughout 2021 and 2022, they were forced to increase share rates. The average rate that credit unions paid on money market accounts increased from 0.13% to 0.73% between 2021 and 2023. The increased rates put pressure on the credit union to pay up for shares or see them walk out the door.
|
National average rate (credit unions) |
|||
|
|
Q4 2023 |
Q4 2022 |
Q4 2021 |
|
Money market —2.5K |
0.73% |
0.40% |
0.13% |
Another reality credit unions have faced is tougher economic conditions for members and the resulting impacts on liquidity. Credit union members may be dealing with increased loan payments on variable-rate loans, decreased savings rates due to inflation and general uncertainty about 2024’s economic conditions.
The aggregated National Credit Union Association (NCUA) data shows that share growth slowed substantially in 2022 and 2023 after two years of unprecedented growth. At the same time, credit unions grew their nonmember shares the most since 2014 in 2022. The trend of challenging share growth continued in 2023, as balances for share drafts, regular shares and money market accounts all decreased.
|
Share growth for federally insured credit unions (year over year) |
|||||||
|
|
Share draft |
Regular shares |
Money market |
Share certs. |
IRA / KEOGH |
All other shares |
Nonmember deposits |
|
2014 Q4 |
10.37% |
7.84% |
3.37% |
-1.37% |
-1.96% |
-0.50% |
69.32% |
|
2015 Q4 |
14.50% |
9.69% |
5.60% |
0.63% |
-0.41% |
3.63% |
31.86% |
|
2016 Q4 |
2.60% |
11.68% |
7.51% |
4.92% |
1.98% |
14.43% |
31.20% |
|
2017 Q4 |
9.14% |
7.25% |
4.19% |
6.36% |
-0.56% |
0.71% |
17.21% |
|
2018 Q4 |
14.44% |
1.26% |
0.89% |
12.26% |
-0.14% |
8.23% |
15.92% |
|
2019 Q4 |
7.88% |
4.13% |
4.92% |
20.56% |
4.42% |
8.48% |
8.32% |
|
2020 Q4 |
40.15% |
27.79% |
24.40% |
-3.88% |
3.61% |
27.77% |
-9.42% |
|
2021 Q4 |
25.95% |
15.45% |
19.15% |
-10.28% |
-0.78% |
10.58% |
-3.31% |
|
2022 Q4 |
4.08% |
0.14% |
-3.13% |
19.85% |
-1.04% |
-2.64% |
90.61% |
|
2023 Q4 |
-3.29% |
-13.37% |
-15.93% |
63.06% |
2.90% |
-7.37% |
28.43% |
Another sign of the times is growth in credit card balances, payday alternative loans and junior lien residential real estate, as members tapped alternative funding sources to meet their day-to-day needs.
Liquidity pressure continues to grow, especially for credit unions with continued loan demand. While the growth was product specific, the aggregated NCUA data shows that credit cards, payday alternative loans, junior lien residential real estate, commercial real estate and commercial non-real-estate secured loans had double-digit growth in 2023.
|
Loan growth for federally insured credit unions (year over year) |
||||||
|
Loan type |
Q4 2018 |
Q4 2019 |
Q4 2020 |
Q4 2021 |
Q4 2022 |
Q4 2023 |
|
Credit card |
7.5% |
6.8% |
(6.4%) |
3.9% |
15.6% |
10.5% |
|
Payday alternative |
22.6% |
20.5% |
5.9% |
24.4% |
42.2% |
15.2% |
|
Non-federally guaranteed student |
17.0% |
7.3% |
9.0% |
9.6% |
14.3% |
(2.2%) |
|
All other unsecured |
6.5% |
7.7% |
13.4% |
(2.0%) |
22.9% |
8.6% |
|
New vehicle |
11.4% |
0.2% |
(3.7%) |
(0.1%) |
22.2% |
1.1% |
|
Used vehicle |
9.1% |
4.0% |
4.6% |
10.3% |
18.9% |
3.4% |
|
Other secured NRE |
10.2% |
7.5% |
10.2% |
17.2% |
18.3% |
5.1% |
|
Lease |
16.6% |
13.1% |
0.8% |
16.4% |
22.7% |
3.5% |
|
First lien residential noncommercial |
8.3% |
8.3% |
9.4% |
9.2% |
16.6% |
4.1% |
|
Junior lien residential noncommercial |
19.0% |
4.3% |
(8.3%) |
(0.5%) |
39.2% |
24.5% |
|
All other noncommercial RE growth |
(67.9%) |
(25.8%) |
(11.5%) |
(8.3%) |
(17.4%) |
2.0% |
|
Commercial real estate secured |
15.5% |
16.7% |
16.3% |
19.1% |
24.6% |
13.2% |
|
Commercial non-real-estate secured |
(10.2%) |
3.0% |
5.2% |
10.2% |
22.2% |
12.2% |
Investment growth during 2020 and 2021 was also unprecedented in the credit union industry.
Specifically in 2020, investments with maturities 5-10 years and >10 years grew by 72.94% and 131.62%, respectively. However, as rates increased, these investments were susceptible to unrealized losses.
Credit unions may collect interest and principal from these investment cash flows, but long-term investments with large unrealized losses are not typically sold. To do so would mean realizing a loss against net worth. The result is a lot of long-term investments on credit union balance sheets that do not represent true accessible liquidity.
|
Investment growth for federally insured credit unions (year over year) |
|||||
|
|
<1 year |
1-3 years |
3-5 years |
5-10 years |
>10 years |
|
2014 Q4 |
-3.88% |
11.62% |
-4.70% |
-30.06% |
-21.54% |
|
2015 Q4 |
1.37% |
2.16% |
-5.80% |
0.27% |
-20.73% |
|
2016 Q4 |
10.12% |
-6.68% |
-9.91% |
10.50% |
-12.35% |
|
2017 Q4 |
-3.67% |
-8.89% |
4.87% |
3.48% |
3.45% |
|
2018 Q4 |
-0.96% |
-0.17% |
-11.92% |
0.10% |
-3.54% |
|
2019 Q4 |
11.60% |
6.55% |
-7.65% |
-1.92% |
43.85% |
|
2020 Q4 |
24.67% |
23.62% |
35.61% |
72.94% |
131.62% |
|
2021 Q4 |
-8.06% |
1.86% |
71.50% |
81.66% |
40.84% |
|
2022 Q4 |
-8.42% |
-1.00% |
-25.72% |
17.93% |
15.29% |
|
2023 Q4 |
9.48% |
-6.76% |
-20.43% |
-17.37% |
1.40% |
Credit unions were able to manage the liquidity outflows by drawing down cash and short-term investments, borrowing additional funds and supplementing share balance changes with nonmember deposits. The aggregated NCUA data shows that the average cash and short-term investment to asset ratio decreased from 18.41% to 11.47% between Q4 2020 and Q4 2023. 11.47% is below quarterly average between 2014 and 2023 of 14.0%.
|
Balance sheet trends for federally insured credit unions (year over year) |
|||
|
Cash and short-term investments to assets |
Borrowings to total |
Nonmember deposit to total shares |
|
|
2020 Q4 |
18.41% |
2.50% |
0.73% |
|
2021 Q4 |
17.14% |
2.17% |
0.63% |
|
2022 Q4 |
10.16% |
4.75% |
1.16% |
|
2023 Q4 |
11.47% |
6.40% |
1.47% |
The NCUA recognizes the challenges the industry is facing, and in January of 2024, it provided an updated advisory on liquidity risk management that reiterated the key areas of focus for credit unions to effectively manage liquidity.
If you aren’t staying up on your liquidity monitoring, it can put your credit union in a tough spot. So how can you manage these elevated risks?
1. Step up your liquidity monitoring
Your liquidity policy should specify the frequency of liquidity reporting. While the board may receive quarterly liquidity risk reports, management reporting should generally be more frequent, especially if you are dealing with decreasing liquidity. Consider moving to weekly or monthly management reporting.
In addition, monitoring the liquidity triggers from your contingency funding plan is an important element of liquidity management. When a crisis happens, there might not be a way to know right away, and that’s why it’s important to frequently monitor liquidity triggers. Changing conditions could indicate increasing liquidity risks.
For example, a 2% outflow of non-maturity shares might be normal or “green,” while 5% might be outside normal business fluctuations or “yellow,” and 10% might be a major crisis or “red.” If there was a 5% outflow of non-maturity shares, you don’t want to wait until month-end or quarter-end to discover the issue.
2. Review pro-forma cash flow analysis and stress test your cash flows
Regulatory guidance says that credit unions should have robust methods for projecting cash flows from their balance sheet. Pro-forma cash flow models are a critical liquidity tool, especially in uncertain times. Looking at your current balance sheet is not good enough; you need to develop realistic expectations of future liquidity.
In addition, the regulatory guidance says that credit unions should conduct stress tests regularly for a variety of institution-specific and marketwide events across multiple time horizons. The stress testing should be layered on top of the pro forma cash flow model, and management should develop plans to address any cash flow shortfalls. If you are dealing with decreasing liquidity, your liquidity stress testing may inform management’s tactics in addressing the situation.
3. Understand your funding risks
An important piece of managing liquidity risk is to understand how the credit union is funding its balance sheet. Typically, credit unions will fund the balance sheet with a mix of core shares, non-core shares and other wholesale funding. Management should understand concentration risks, including large share concentrations, concentrations to certain industries or concentrations of non-insured shares. Part of the CFP should be potential responses to those concentration and funding risks.
A study of the historic behavior of share accounts can also help the credit union understand the expected maturities on shares, or if the credit union has surge shares that it should expect to runoff quicker than the rest of its share base. Understanding these risks and identifying potential funding sources to offset these risks is a critical piece of managing your liquidity position.
4. Review your contingency funding plan (CFP)
At its core, a CFP is a crisis management tool. The tool should set out the strategies management expects to use to address liquidity shortfalls. The requirements of a CFP are addressed in the Interagency Policy Statement on Funding and Liquidity Risk Management. If you are facing mounting liquidity pressure, it is a good time to review your CFP at your asset liability committee meeting and board meeting, as well as a good time to test the operational components of your plan.
5. Get an independent review of your liquidity risk management
Management should be sure an independent party reviews and evaluates your credit union’s liquidity risk management processes. The reviews should determine whether it complies with both supervisory guidance and industry-sound practices.
How Wipfli can help
Wipfli’s liquidity risk management consultants can assist your credit union in pinpointing areas of risk in your institution and discussing recommendations for how to mitigate that risk and strengthen your institution’s overall stability. Contact us to learn more.
