What’s Your Credit Union’s Liquidity Strategy

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Compliance preparations for the National Credit Union Administration’s new emergency liquidity rule must have been completed by March 31 2014.

The liquidity rule sets up three-tiered emergency liquidity requirements for credit unions with less than $50 million in assets, between $50 million and $250 million in assets, and more than $250 million in assets.

Federally insured credit unions (FICUs) with less than $50 million in assets must maintain a basic written emergency liquidity policy but will not be required to take further action. All FICUs with assets of $50 million or more are required to develop contingency funding plans describing how their credit union will address liquidity shortfalls in emergency situations. FICUs with assets of $250 million or more would be required to have access to a backup federal liquidity source for emergency situations.

Why wouldn’t credit union’s with less than $250 million in assets not want to have access to a backup federal liquidity source such as the discount window or CLF for emergency situations?

The final rule does not include the Federal Home Loan Banks (FHLB) as an acceptable source of emergency liquidity, although eligible credit unions required to meet the federal source provisions would be free to borrow from a FHLB for nonemergency purposes. Without the FHLB, credit unions have two options to ensure a federal liquidity source for emergency situations: Becoming a member of the NCUA’s Central Liquidity Facility (CLF) by subscribing to CLF stock or access to the Federal Reserve’s discount window.

I strongly supports the use of the home loan banks for liquidity.

Why be concerned now about liquidity when most credit unions are still awash with funds resulting from a flight-to-safety fund inflows and loan portfolio outflows due to lack of loan demand?

• Rising rates typically are used to manage economic recoveries. so it is likely rising rates will be accompanied by a return of flight-to-safety funds to the market and a spike in loan demand, putting many credit unions back in the tight liquidity environment of a few years back.

• Many credit unions have rate floors under their variable rate loans.  As rates move up, rates on these loans won’t move for a while. But your cost of funds will.  The result is a compressed net interest margins or NIM

The objective of a viable liquidity policy and strategy is to provide a framework to minimize the adverse effects of a significant and sustained liquidity crisis.  This can result from changing economic or interest rate conditions, deposit outflows, unusually strong loan demand, intense competition, an international crisis, or any other factors that can deplete the liquidity of the credit union.

In the event of a serious and sustained liquidity crisis, various strategies, of which some would be considered preventative and must be implemented prior to the onset of a crisis.  Other strategies are reactive and may be implemented immediately.   The strategies will differ in terms of the implementation time, costs, risks, financial implications and regulatory consequences.

The first place to look for sources of liquidity is within your own balance sheet. More

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Finalized-FDIC Overdraft Guidance

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The FDIC guidance “reaffirms” a best practices document that was issued in 2005, and it creates specific risk-mitigation techniques that it expects regulated banks to implement.   The FDIC guidance does not apply to credit unions, however, with that said this guidance opens the door for others.
Herein are some specific risk-mitigation techniques:

  • Your board must be involved with its ODP program.  Expected; is regular oversight including an annual board review of an ODP program’s key features.
  • Reviewing ODP advertising to minimize confusion and to promote responsible use.
  • Monitor programs for excessive or chronic customeruse.  What is abuse? When a customer overdraws the account on more than six occasions where a fee is charged in a rolling twelve-month period.  If and when that occurs, the bank must undertake “meaningful and effective” follow-up action, which may include, for example:
    • Contacting the customer to discuss less costly alternatives; and
    • Giving the customer a reasonable opportunity to decide whether to continue fee-based ODP coverage or choose another available alternative.
  • Instituting appropriate daily limits on customer costs by, as an example, limiting the number of transactions that will be subject to a fee or providing a dollar limit on the total fees that will be imposed per day.
  • Considering the elimination of overdraft fees for transactions that overdraw an account by a small amount.
  • Considering the use of cost effective, existing technology, as appropriate (e.g., text message, e-mail, telephone or cell phone) to alert customers when their account balance is at risk of generating a fee for non-sufficient funds.
  • Reviewing check-clearing procedures and any third-party vendor to ensure they operate in a manner that avoids maximizing customer overdrafts and related fees through the clearing order.

The FDIC expects affected institutions to have their new risk-mitigation techniques in place by July 1, 2011.

The guidance will create downward pressure on bank ODP revenue streams.

If your credit union earns income from an ODP program, that income is now at risk.  How much is at risk is yet to be determined, but one may want to consider the following.

  • How much ODP income do you receive from smaller transactions. If the small dollar amount transaction cutoff for fees take effect, ODP fees from those transactions could go away.   What is the impact?
  • How much ODP income do you earn from consumers who are charged more than 6 ODP fees in any 12-month rolling period? If this applied to you, you’d have to reach out to them and show them alternatives. Let’s say only 10% of those consumers opted out of your ODP program. How much money would that be?
  • Do you clear items from largest to smallest in terms of dollar amount?  If you had to clear items based on the order received or by check number, how might that affect your income?
  • Imagine you implemented a daily limit of $25 or $50 for ODP programs.  How would that have affected your income in 2011?

Credit unions are member-centric organizations.  It is recommended those credit unions with an ODP program begin to  develop and deploy several of the risk-mitigation techniques above if they already have not.  That said, it is widely anticipated many executives will be revisiting this area once again.

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