By Chris Shipman, Catalyst Strategic Solutions, Advisor
This new, electrically charged economic environment is still primed for volatility. For the first time since October 2008, the Federal Open Market Committee (FOMC) called an
emergency meeting. Actually, not just one, but two emergency meetings in March. Economic conditions had deteriorated to the point the FOMC deemed it necessary to meet outside their regular scheduled meeting to try and alleviate the impending economic storm.
An outcome of these meetings was to lower the Federal Reserve target range, ultimately, by 150 basis points. Preparing for an exogenous shock – like the economy shutting down due to a virus – was well beyond even the most robust planning sessions. To put the FOMC’s recent rate adjustments into perspective, the last time the U.S. experienced a rate drop that quickly was 40 years ago, while the U.S. was in the middle of the 1980 recession.
The sudden jolt from the FOMC’s rate adjustments has not gone unnoticed. In addition to the normal accelerated paydowns, lack of loan growth, lower yields on investments and ballooning deposit balances, Catalyst Strategic Solutions’ Advisors are observing a material change in long-term interest rate risk in the falling interest rate scenarios. This change is primarily due to the increased value of assets with little offset coming from liabilities.
Most credit unions likely experienced no major structural deficiencies within their balance sheet. Given the sudden turn of events, little could be done to adjust the balance sheet ahead of time to avoid the change in long-term interest rate risk to falling interest rates.
At this time, it is a natural conclusion that rates will remain low for some time. Remember that the FOMC is constantly reviewing economic data to determine their course of action relative to the federal funds target rate. If inflation and employment results remain outside their targets, the FOMC will be slow to raise rates. Thus, if credit unions maintain their current balance sheet profile and lower their deposit rates, the change in market value of equity will continue to increase in a falling interest rate scenario. As a result of the dynamic changes to the interest rate environment and corresponding balance sheet valuations, credit unions should engage in thorough discussions of these factors during their asset/liability committee (ALCO) and board meetings.
Additionally, it is recommended that credit unions focus on positioning their balance sheet for the eventual upward movement in rates. A credit union’s balance sheet is not easily turned. A forward-looking strategy combined with short-, near-, and long-term goals will make the credit union proactive rather than reactive. Ask questions such as, “Do you believe the economic recovery will be quick or long-lasting,” “What investment and loan decisions do we need to make in order to avoid any further economic damage to the credit union,” or “How severe do we believe the economic damage is, and should we continue to add duration to the balance sheet to (re)capture income lost?” These are just a few ideas to jump start the credit union’s strategic planning session.
Working with your Catalyst Strategic Solutions team will provide the insight needed to navigate this economic cycle. If you do not currently work with a team, we would be happy to help determine the best fit for your credit union needs.
For more information on Catalyst Strategic Solutions’ team of experts, or any of the ALM and Advisory Services offered, contact us today!