Increased Mortgage Lending Presents Challenges And Opportunities

By remaining vigilant of interest rate risk and implementing mitigation strategies, credit unions can continue to safely provide great mortgage options to members.

Credit unions originated a record amount of loans during 2012, with over $330 billion lent out to members and businesses across the country. First mortgages were the main driver of thisgrowth, as members continued to take advantage of attractive cooperatives. This led to mortgage origination growth of 50.3% or $41.5billion over course of the year. Consumer loans, which include loans like autos andcredit cards, also helped to drivegrowth as they rose by 14.3% or $21.8 billion.

With this continued boom in real estate lending, the amount of mortgages on credit unions balance sheets has reachedan all-time high. But given that these loans are a good portion of the balance sheet and carry a higher value than many other loan types, fixed-rate first mortgages are subject to interest rate risk, particularly in the current rate environment. Interestrate risk results from the change in the market value of an asset or liability as a result of a change in market interest rates.

For credit unions, their primary interest rate risk concern is that they are locked into receiving a below market interest rate on a loan (i.e. fixed rate first mortgages)or investment, or they are paying an above average market rate on a deposit for an extended period. Fixed-rate first mortgages as a percentage of a total assets is a metric oftenused to judge interest rate risk. As of the end of 2012, credit unions held 14.8% of their total assets in fixed-rate first mortgages, down from a peak of 15.0% at the end of 2008 but up from 11.9% in 2004.

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To mitigate interest rate risk, a number of transactions can be executed to meet the risk parameters of an individual institution while also satisfying the demands of its membership.For example, credit unions have been selling increasing amounts of first mortgages to both mitigate interest rate risk as well as generate non-interest income.

During 2012, credit unions sold $66.5 billion in first mortgages to the secondary market, which equals 53.6% of first mortgage originations. Despite selling mortgages,many credit unions retain the servicing of these loans, with nearly $140 billion in sold mortgages still being serviced by credit unions.

An example of an on-balance sheet transaction to mitigate interest rate risk might be a term borrowing to match the term of a segment of the auto loan portfolio.

Credit unions with significant concentrations of fixed rate mortgages on their balance sheet need to have a strong skill set in ALM management, says Tim Mislansky, chief lending officer at Wright-Patt Credit Union ($2.6B, Fairborn, OH). In today’s low rate environment, these credit unions need to perform multiple interest rate shock tests to assess the potential impact to their net interest income andnet income if market rates, and subsequently deposit rates, rise quickly.

While there are clearly risks to increased mortgage lending, this dynamic growth has also had positive effects. In 2012, credit unions captured their highest mortgage origination market shareever 7.0% as they continued to become a more prominent alternative to big banks. Additionally, credit unions reported higher non-interest income which helped to boost their net income, allowing them to use that money to continue toimprove their institutions in the future.

Credit unions should be vigilant of their mortgage portfolios but still continue to help members obtain homes or refinance mortgages in a way that makes sense for the institution.

June 6, 2014

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