ALM 101: Why Credit Unions Won’t Get Caught Like SVB
Silicon Valley Bank (SVB) failed in March, creating some concern for consumers here in the U.S. and around the world. Typically following a scenario like this, as well as during down economies, credit unions capitalize on the safety and soundness of their not-for-profit status to grow members and loans.
Now, it’s particularly important amid the liquidity crunch to earn member deposits, but also their loans and other business. Credit unions can be the calm in the current economic storm. Let’s look at what happened at SVB. Three primary risks – and lack of standard banking risk mitigation techniques – led to its downfall:
1. Concentration risk
2. Interest rate risk
3. Liquidity risk
Each of these played a role in bringing down the $200 billion bank, from its investment concentration (at low rates and longer terms in a presumably desperate attempt to earn yield to benefit SVB shareholders), to interest rate risk (by investing long even as rates were beginning to rise and lending short), to ensuring enough liquidity on hand for its 94% of deposits that were not insured by the FDIC, according to S&P Global Market Intelligence data as of year-end 2022. This cocktail, along with the tight knit fintech community grapevine, was more than the balance sheet could bear as unrealized losses became realized.
Conversely, given nearly 91% of deposits in federally insured credit unions are insured by the NCUA, a run on credit unions is unlikely. We also don’t see the same types of concentration risk, particularly since the crash of the taxi medallions that pummeled a handful of credit unions. The regulators have decided they learned their lesson on that one. Foreseeing some of these challenges, the NCUA highlighted two of the three risks listed above (interest rate risk and liquidity) as supervisory priorities for 2023.
Credit Union Difference Shines
This is where the credit union difference really shines. It’s not just that we’re people helping people, although credit unions certainly are unlocking opportunities in and for their communities. A credit union’s structure is different, and while a member may not see or care about that, they do see the benefits of that structure which enables credit unions to support members with products and services tailored to their unique needs and at better rates.
Credit unions aren’t chasing the highest possible returns – and riskiest bets – to appease stockholders. Without the trappings of certain for-profit incentives, credit unions make decisions for the best interest of their members.
At the same time, the Silicon Valley Bank crisis demonstrates the importance of small businesses as an underserved market. It wasn’t the fact SVB was serving small businesses that took it down – it was poor Asset-Liaiblity Management (ALM). We shouldn’t give up on the small business market, particularly in economically distressed communities. Consider serving small businesses, ensuring your credit union has the right expertise, to diversify your portfolio.
CDFI Credit Unions
Particularly in the world of Community Development Financial Institution-certified credit unions, risk management is crucial to provide services to the most economically vulnerable. Treasury’s CDFI Fund has made new programs available to help mitigate risk as CDFI credit unions expand further into distressed communities. According to the CDFI Fund, 222 CDFI Credit Unions (47% of all certified CDFI credit unions) applied for its Equitable Recovery Program (ERP). Credit unions accounted for 31.9% of all ERP applicants. Recipients are to be named in 2023.
The CDFI ERP was designed to:
Many CDFI credit unions have also taken advantage of the CDFI Fund’s Emergency Capital Investment Program (ECIP), created to support eligible mission-driven institutions in their lending to financially underserved borrowers and communities.
ALM is a slow, methodical process of making decisions several months in advance, including all aspects of diversification, from geographic to investment and loan types to socio-economic demographics, of your field of membership. Strong ALM is very broad-based, involving liquidity management, contingency planning, marketing strategies, pricing and more.
Even when outsourcing ALM, credit unions cannot outsource the risk. As a regular part of vendor management, credit unions should ensure their auditors are seasoned and look at switching auditors every five years or so to further mitigate exposure.
CU Strategic Planning works with hundreds of credit unions, and just the two of us have a combined half century of experience in ALM, compliance and credit union experience. Know that the NCUA is paying attention to these things on a regular basis. It may be a headache sometimes, but the bottom line is, we won’t see anything like the Silicon Valley Bank meltdown in credit unions. Our first line of defense, however, is credit unions leaders’ fiduciary responsibility to their members.