15 minutes
As credit union lenders enter the second half of the decade, solidly ensconced in the 21st century, it’s a good time to take stock of where their organizations stand and where this new year may take them. Here are some questions—and selected takes on answers—worth pondering.
How Long Will the Economic Expansion Continue?
“Technically, we’ve been out of recession since the fourth quarter of 2009—even though the average consumer may not feel that way,” notes CUES member Bill Vogeney, senior EVP/lending and finance for $4.1 billion, 240,000-member Ent Credit Union, Colorado Springs, Colo. “So we’re in the sixth year of economic expansion, and typically recessions occur every seven to seven and a half years, so there is the potential that we could enter a recession as soon as Q4 2016.”
A strategic view of lending takes in not only the national economy, but global economic conditions as well. Big trends may have positive impacts on some aspects of a nation’s economy and negative effects on others. For example, the Canadian economy suffered setbacks in early 2015 due to declining oil prices and decreased investments in the energy sector but was on the rebound in the second half of 2015, largely on the strength of increased consumer spending.
“The global economy will dictate how strong the U.S. economy is. Over the last couple years, U.S. manufacturing and exports have expanded, while other economies have been in recession or close to deflation,” Vogeney notes. “If a big chunk of the world economy is shaky, what will that mean for U.S. exports, manufacturing, and jobs? What sectors of the economy might do better than others?”
Global economic uncertainties stayed action on interest rates until Dec. 14. The pace of future rate increases could be modest and have minor CU impact.
Indeed, if history is any indication, rising rates will increase profitability and provide more revenue for CUs to invest in their operations and member service channels, says Ryal Tayloe, VP/credit unions with nCino, Wilmington, N.C.
“Rising interest rates may be painful for some borrowers but, overall, every time rates have ever increased in the past, credit unions have been positively impacted by increasing earnings,” Tayloe notes. “So in 2016 there will likely be more money for credit unions to invest.”
What are the Implications of Skyrocketing Student Debt?
More than 43 million Americans owe a combined $1.2 trillion in student loan debt. This is not just the burden of Millennials. According to the New York Federal Reserve Bank, 35 percent of all student loans are owed by people over 40, who either went back to school themselves or took out loans to help their children through college.
Among young adults, student loan debt is a factor driving significant economic trends and may be holding Millennials back from starting families, buying their first homes, and even moving out on their own. According to the Census Bureau, an average 1.2 million new households formed annually from 2002 through 2006; over the next seven years, the average was half that. One implication is that a great deal of pent-up demand should exist among first-time homebuyers and renters moving out on their own if and when their earnings rise as they put those degrees to work.
What Does Pent-Up Demand Mean for the Mortgage Market?
The outlook for 2016 seems to be volume slightly lower but generally consistent with the previous year, which means lenders will be busy, says Bruce Backer, managing director/consumer engagement with lending solutions provider Optimal Blue, Plano, Texas. Given consolidation within the industry, a smaller number of mortgage lenders will be striving to increase their share of the market.
“The opportunity for credit unions is to leverage what’s perceived as higher levels of service and attention to their member relationships,” in comparison to mortgage lenders and community banks, Backer says.
With the refi boom over and the pent-up demand for buying and buying up somewhat sated in recent years, lenders should take an objective look at prospective mortgage borrowers still in the market, Vogeney suggests. “A lot of people hit hard by the last recession are still on the sidelines.”
CUs need to assess whether and how they can meet the mortgage needs of lower-income borrowers and consumers with past credit challenges. The current levels of U.S. homeownership in the 63 percent range may be the new sustainable norm—down from highs around 70 percent midway through the last decade, he says.
The high price of housing may sound some alarms for Canadian credit unions in 2016. A Manulife Bank survey reports that Canadians are increasingly stretched financially by high mortgage payments; mortgage debt averages $175,000 across the country and exceeds $200,000 in some provinces, including British Columbia and Alberta. Housing prices in Canada are rising at the fourth highest rate among 23 developed nations.
How Can CUs Up Their Game in the Mortgage Market?
Going digital and strengthening ties with the real estate community are two key strategies in shifting from an emphasis on refinancing to purchase loans, as rates begin to rise, says CUES member Lorraine Stewart, VP/mortgage lending with $13.8 billion, 940,000-member BECU, Tukwila, Wash.
As with many CUs, the larger share of BECU’s mortgage business has historically been in refinances, but purchase volume has been increasing steadily, Stewart says. To pick up that momentum, the credit union is expanding the ranks of mortgage advisors working out of its neighborhood financial centers in direct engagement with the real estate community to bring in members through that channel.
One avenue to enhance those connections is BECU’s real estate services program, offered in partnership with Prime Alliance Real Estate Services, through which preferred real estate agents offer discounts on their commissions to members buying or selling homes.
“We’re also working on data mining and business analytic tools to identify when our members are going to be looking to buy a home. We think we have a tremendous opportunity in the purchase market just within our own membership base,” Stewart says. “If we increased our penetration with existing members by just 3 or 4 percent, that would result in a pretty significant increase in business.”
Seattle continues to be a hot real estate market, especially with current homeowners either moving up to bigger homes or people nearing retirement looking to downsize. BECU hopes to launch new data mining tools early this year to identify which of its members are in the mortgage market and reaching out to them via their preferred channel of communicating with their credit union.
“I think it’s going to be a great year for us,” Stewart adds. “There will be some challenges with uncertainties about rates and going after purchase loans. A purchase loan is a bit of a different animal to fulfill. There are more emotions involved, so you need to change your approach and understanding in dealing with Realtors and borrowers, who are entering into probably the biggest financial transaction they’ll undertake in their lives.”
Especially for the market of Millennials shopping for their first homes, a key service may be fully digital mortgage delivery, Stewart suggests, and BECU has all the pieces in place for paperless home loans.
How Profitable is Auto Lending?
According to a recent Scotiabank report, North American auto sales have been a “bright star” for both the U.S. and Canadian economies. New auto sales in Canada were expected to end 2015 in record-setting territory for the third consecutive year and continue that brisk pace in 2016.
Even as rates begin to rise, credit unions can build their share of the auto lending market by “staying in front of members with prescreened offers and identifying which members have auto loans with other lenders and working to recapture that business,” says CUES member Bob Stroup, VP/product management with BECU.
With two-thirds of the CU’s auto lending volume going through the indirect channel, maintaining dealer relationships is also crucial, says Boyd Vanderleest, BECU’s VP/consumer lending and a CUES member. “It’s just basic sound business practice for relationship managers to make sure they’re communicating clearly with both dealers and underwriters so we offer a predictable product for the market.”
Vogeney sees the potential for brisk auto lending business as the new and used vehicle market continues to cater to pent-up demand. “If you take a look at the number of new vehicle purchases from 2009 to 2012, it was probably 3 million to 4 million units per year below the long-term trend lines,” Vogeney says. “Certainly, through 2016, the market looks really strong.”
Credit unions have been doing fairly well in capturing their share of this market, but they may need to assess the profitability of that product line, especially with steady increases in dealer fees, which have grown from 1 percent to 2 or even 3 percent in some markets. That could compress the yield to as low as 1.25 percent on indirect auto loans, before loan losses, Vogeney cautions.
“Certainly, profitability is a fair concern, but the other concern is how long auto loan performance will continue to be strong,” he adds. “Will that change dramatically with the next recession?”
Several factors might play into what-if scenario planning for auto lending through the next downturn. Compared to 2007 and 2008, when $4 per gallon gas prices impacted losses tremendously from more repossessions and higher losses per vehicle for pickup trucks and big SUVs, the impact on auto lending from a financial downturn is likely to be less severe with gas prices closer to $2 per gallon, Vogeney suggests. Another factor that could impact losses is the trend toward longer loan terms, which increases the risk for negative equity in new car loans in an economic decline.
“It’s not necessarily about continuing to gain market share, but whether your current share is profitable and, if you are concerned about the next downturn, what adjustments you might need to make,” he says.
Ent CU is refining its auto lending processes to appeal to the niche of members buying used vehicles from private individuals through online listing services. “The paperwork for a private sale—to get the title and record the lien—can be cumbersome. To do it right, you really need to have the buyer and seller in your office,” Vogeney notes.
In reviewing its risk exposure with these loans, the CU found that most loans are made to members with good credit and losses are low, so the CU has changed its requirements to allow members to submit the vehicle title with the Ent CU lien recorded within 60 days of receiving the loan.
“It’s a matter of balancing credit risk with operational risk,” he says. “If you have good credit experience, you can potentially take on more operational risk. And if you’re dealing with long-time members with good credit, they’re not going to burn you.”
How can CUs Boost Profitability in Their Credit Card Portfolios?
Maintaining and growing credit card business is “all about rewards,” Vanderleest says. “Credit unions need to constantly monitor the competition to understand what’s happening relative to credit card offerings in terms of rewards and incentives. The big issuers are constantly upping their game and changing their programs. If you have a stagnant program, you’re going to get left behind.”
CUs, as an industry, could see gains by being more aggressive in driving credit card utilization, Vogeney says. Balance transfer initiatives, rewards programs, and automatic limit increases for qualified members could help build this business.
“Increasing limits as borrowers show the ability to repay and intelligently use their cards is one area where credit unions tend to fall down,” he notes. “Once cardholders hit about 50 percent of their limit, they start thinking about which card they want to pull out of their wallet, and they’re more likely to pull out a card with a lower balance. If you’re not keeping up with cardholders’ needs with utilization techniques, you may not see the growth from members who carry balances.”
What’s the Business Lending Outlook?
New business lending regulations proposed by the National Credit Union Administration, which may take effect this year or in 2017, “will allow credit unions around the nation to be able to serve the business community much more effectively and to be able to compete better with community banks,” says CUES member Dana Gray, BECU’s VP/business and wealth services.
BECU has spent the last three years building its business lending program, beginning with credit cards, lines of credit, equipment and vehicle loans, and real estate loans. More recently the CU expanded its staff of experienced relationship bankers, skilled underwriters and processing teams with the goal of serving businesses with $2 million to $20 million in annual sales. The credit union is also working with commercial real estate investors in the booming Seattle market.
As its business lending volume has grown, BECU looked for ways to streamline underwriting, implementing a new loan origination system powered by FICO Liquid Credit (part of the company’s Small Business Scoring Service), “to allow us to more efficiently approve business credit cards and small dollar business loans through a scoring process,” Gray says.
For credit unions just getting started with business lending, Gray recommends leveraging their brand with existing members who also have business needs—and to take advantage of the cooperative spirit of the movement to partner with more experienced business lenders.
In particular, NCUA’s proposal to remove participation loans from the business lending cap may provide new opportunities. BECU has built a selective participation program “diversifying geographically with a handful of partners around the nation—credit unions that we knew had strong, more established business lending programs,”
Gray says. “BECU is relatively new in its refocus on business lending, so we’ve benefited from these relationships.”
How Will the Competitive Landscape Shift in 2016?
At BECU, business, mortgage, and consumer lenders monitor shifts in a busy, dynamic market. In business lending, the credit union was “a bit of a disruptor when we entered the commercial real estate market” and has since seen several new entrants, including community and national banks, increase their presence, Gray says.
A crucial task is monitoring changes in pricing and fee structures, such as reductions or waivers in prepayment penalties on business loans, she notes. “We really have to monitor the competition closely while at the same time staying true to our guidelines.”
The competitive landscape in mortgage lending will be shifting toward lenders with the capacity and reputation for making purchase loans, Stewart suggests, and the ability to stay abreast of compliance issues will also have an impact. Having implemented the TILA/RESPA Integrated Disclosure rules in 2015, credit unions may have a bit of a breather in dealing with new mortgage rules—at least until a rewrite of the Home Mortgage Disclosure Act regulations, anticipated to take effect in 2018.
“Smaller lenders may struggle to make the changes needed to keep up with the volume and velocity of regulatory changes,” she says. “Maintaining the processes regulators want to see will be a challenge for smaller organizations and may drive continued consolidation.”
In the consumer lending space, new entrants like OnDeck (business loans) and Lending Club (connecting borrowers and investors) are drawing attention for their ability to make quick decisions and speedy funding. But their cost of capital—and thus their rates—are much higher than credit unions charge, Tayloe says.
“Credit unions have a huge competitive advantage with their low cost of capital,” he notes. “If a credit union is able to provide the same or better experience for borrowers, given their emphasis on member service, they should never lose a deal.”
The buzz—and venture capital—these marketplace lenders are attracting “may just prove the thesis that borrowers care about two things: Am I approved? And when can I get my money?” he adds. Those priorities put price and level of service as secondary considerations—and explain why competing with these new, potentially disruptive players may be a big topic of discussion in the coming year.
“The only answer is to invest in technology” that facilitates quick decisions on loan applications and disbursement of loan funds across the full range of loan categories, Tayloe suggests.
Market trends in lending “should be on every credit union’s radar,” Vogeney says. For example, Lending Club started out as a peer-to-peer lender, but now gets significant funding from community banks and other institutional investors. Community banks have discovered that these arrangements are a profitable way for them to invest in a block of relatively high-rate loans rather than making $5,000 personal loans one at a time, he notes.
The growing popularity of alternative lenders like Kabbage (small business loans) speaks to the preference of some borrowers for a quick decision and funding, whatever the rate, he suggests. But over time, these lenders can parlay their profits into a much wider audience. Vogeney notes that Capital One, one of the nation’s highest profile U.S. card issuers, got its start as a subprime credit card lender and gradually worked its way into the mainstream.
Credit unions need to monitor the impact of nontraditional lenders competing for consumer loans, Stroup agrees, and focus on their advantages of offering a full range of financial products and services and operating from a position of trust with members.
“Those are huge advantages, especially for consumers obtaining loans,” he says. “They want somebody they can trust. They want stability. They want to know that whoever they’re getting a loan with is experienced. That’s really our best defense against new entrants in the market.”
Some members value speed, and some shop for loans based on rates, while for others, trustworthiness tops the list, Stroup notes. “It all comes down to providing value to members, and I don’t think you have to be fancy to do that. Our philosophy is to deliver the basics, but do that really, really well.”
What’s the Long View?
As of the fall of 2015, credit union delinquency rates were down to 74 basis points across all categories, Tayloe notes. “That’s exceptionally low, pre-recession-level low. That means credit unions are making good loan decisions and keeping their loan portfolio quality at a very high level.”
In comparison, banks and other lenders seem to be making more loans, but perhaps with not as much attention to quality. “Credit unions are sticking to their bread and butter and being very conservative, and that asset quality shows through. Compared to community banks and other banking tiers, in the coming years if we go through another downturn, credit unions may be better positioned to weather economic setbacks,” he says.
Karen Bankston is the proprietor of Wisconsin-based Precision Prose.
