Less Risk, More Reward

An adjustable rate consumer loan product is helping one Kentucky credit union mitigate ALM vulnerabilities and maintain a competitive alternative for borrowers when rates begin to rise.

The future adjustable interest rate (FAIR) loan has been an option for members of Fort Knox Federal Credit Union ($1.1B, Radcliff, KY) since the early 90’s. A natural continuationof the credit union’s open ended lending model where members can sign one time and then take future advances against a loan contract without reapplying FAIR loans help Fort Knoxsafeguard itself from fluctuations in interest rates by ensuring that asset and liability repricings stay parallel.

These loans are currently offered as an option for any of the credit union’s consumer loan products including auto, signature loans, RV, and boat and are a complimentary counterpartto the type of adjustable loans more commonly found in the real estate portfolio.

In periods of high rates, FAIR loans offer members the chance to get as much as a 2% lower rate than those of competitors or even Fort Knox’s own fixed options.

About 57% of the credit union’s total loan portfolio which has grown by 7.8% year over year is adjustable rate loans of one type or another. Roughly 37% of consumer loans at Fort Knox are FAIR loans, as are roughly 50% of itsindirect auto loans.

Callahan & Associates | www.creditunions.com

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While demand has waned slightly in the face of the current low rate environment, the credit union knows that this product will be an extremely useful counterbalance to a fixed option as rates once again begin to rise. In the meantime, it is finding waysto ensure FAIR loans remain attractive to members as well as the institution.

One advantage is that the rate adjustments are capped to certain amount (e.g., for auto loans, no more than 2% over a 12-month period) and frequency (no more than quarterly).

We’ve never had an adjustment get anywhere near that cap, Ates says. And even when an adjustment of the rate occurs, it is only the term of the member’s loan that changes, not their monthly payment. This prevents any out-of-the-bluefinancial suprises that could affect the member negatively.

Second, while the credit union tracks market rates, it also filters that information through the lense of its own regional marketplace and the institution’s actual needs. In other words, just because rates rise nationally doesn’t mean themembers’ loan rates will.

We do our best to hold the FAIR rates down, Ates says.

Last year for example, the credit union reduced the rate for its entire FAIR loan auto portfolio by 25 basis points, essentially saving these borrowers half a million dollars.

Callahan & Associates | www.creditunions.com

Generated by Callahan & Associates’ Peer-to-Peer Analytics.

Fair loans go though the same underwriting process as any other loan and have demonstrated no deviations in performance or delinquency rates from the credit union’s fixed portfolio, Ates says. For credit unions looking to expand their offerings and better position themselves for the eventual rising rate environment, expanding an adjustable option across the portfolio just may bethe way to go.

December 20, 2013

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