Reassess 4 Key Assumptions of ALM During the Pandemic | 2020-08-05
The coronavirus pandemic (COVID-19) is a historic moment that will be discussed for years to come. High unemployment has caused credit unions to revamp their loan programs, allow deferrals and direct payments, and waive fees, while low interest rates are affecting the income of credit unions.
As the pandemic wreaks havoc on credit union finances, how can leaders assess the current environment and make decisions that keep the credit union and its asset / liability management (ALM) efforts in line?
“Taking risks is the only way to get income,” says Dave Koch, CEO of Abrigo. “What matters is managing downside risk. You have to give up some of the potential upside gains to manage the downside risks because we’re going to be here for a while. “
During “The impact of the pandemic on the ALM hypotheses”, a virtual round table of the CUNA Finance Council, Koch offers several hypotheses that credit union leaders must reassess during the pandemic:
1. Cash flow on the balance sheet
Balance sheets will continue to grow during the pandemic, but cash flow will change, says Teri Grams, a consultant at Abrigo. Credit unions need to consider the impact on loan repayments and maturities, prepayments, reductions and deferrals, as well as the changing frequency of loan origination. Also consider the impact of reducing commissions from loan origination or sales.
“We’re making different assumptions in relation to all of these different pieces, and we want to see how those assumptions work together and generate cash flow on the balance sheet,” Grams said.
2. Environment rate
Pricing environments reflect current or “likely” rates and ignore immediate and permanent tariff shocks, Koch explains.
Learn to live in an environment characterized by a flat yield curve, he says. Determine what actions you will need to take to achieve ideal liquidity, credit risk, or other metrics.
“Taking risks is the only way to make money. What matters is managing downside risk.
3. Impact of deferred loan payments
When members defer loan payments, the credit union does not collect the principle or interest from the borrower, Koch says. This affects the cash flow of the credit union by decreasing income, return on assets and capital.
Also take into account that after the deferral period is over, the borrower’s financial situation may not have changed and the loan may be in default.
“Understanding your ALM program and the impact of loan deferrals on cash flow and income is really important,” says Koch.
4. Impact of base deposits
How has COVID-19 impacted the way members save money and how does the credit union manage stimulus check deposits? Perform a share deposit sensitivity study to determine how to classify these assets (stable, rising, short or long term deposits) and how this affects the credit union’s balance sheet.
“I wish we could understand exactly how each depositor is encouraged or deterred from using [stimulus money]”Says Koch. But if I end up with extra deposit money, the real question is what happens to him?”