ALM Rebalancing Act

metal elements balancing
Contributing Writer
member of Bellco Credit Union

12 minutes

CFOs and ALCOs tackle distorted balance sheets in 2021 after surviving the knocks of 2020.

Credit unions are moving through 2021 with skewed balance sheets, asset/liability mismatches and pinched net worth after the turbulent and disruptive but survivable hurricane called 2020. The experience varied from CU to CU, from state to state and even from month to month.

That mixture of good and bad months added up to a pretty decent 2020 financially for $715 million 4Front Credit Union, Traverse City, Michigan, according to CUES member Karl Pagel, SVP/finance. “In the spring, a lot of economic activity had pretty much shut down,” he details. “By late summer, we could barely keep up with loan demand. By December, things were relatively calm.”

4Front CU grew by $150 million in 2020, exceeding its $105 million projection, fed by the influx of deposits. Loans—particularly indirect auto and home mortgage—absorbed some of that liability surge, but the investment portfolio doubled, from $60 million to $120 million, Pagel reports. Lower asset yields were offset by lower costs and greater fee income to the point where 2020 earnings were up a bit over 2019 in dollars, he explains, but down 5 basis points in return on assets due to its bigger balance sheet.

As assets outgrew earnings, net worth fell from 11.5% at the first of the year to 10% at year-end, Pagel reports. The CU is fine with 10% to support operations but prefers more so it can take advantage of merger opportunities, he notes.

4Front CU likes liquidity as a strategic enabler, Pagel says, but with more than enough, he’s tweaking the investment portfolio to include a few corporate and municipal securities, some with longer maturities, to go with its mostly vanilla holdings. As an organic hedger, 4Front CU is keeping a balance between asset and liability maturities. Only one capital project was postponed in 2020—a website redesign that is back on track for 2021.

Belts are tighter now at $620 million CommonWealth Central Credit Union, San Jose, California, reports CUES member Viktoria Earle, CIE, CCE, the CU’s CFO. “Due to the shock in interest rates and a decline in consumer spending in 2020,” she says, “we saw significant margin compression and a lower ROA.” But net worth remained above 9%, and the CU was still able to offer loan deferrals and emergency loans, she adds.

Tammy Buchanan
Northern Credit Union
The pandemic has strengthened our financial operations. We’re much more focused on informed forecasts now.

2020 left footprints all over the balance sheet of the $1.7 billion Northern Credit Union, Sault Ste. Marie, Ontario. It bulked up the CU from $1.55 billion in assets at the end of 2019, reports CUES member Tammy Buchanan, VP/CFO, fed by the surge of deposits. Net interest margin fell by 20 basis points. The investment portfolio leaped from $100 million to $250 million, she reports, so Northern CU defensively laddered maturities to guarantee turnover and pick up a little gain from going longer.

“Our cash position is up dramatically,” she sighs, partly due to a 15% decline in unsecured loans as nervous members used government stimulus money to reduce or pay off credit balances and increase savings. Some secured loans were paid off too, but robust mortgage activity pushed up secured loans by about 5%.

“Lower capital is something we keep an eye on,” Buchanan says, “but less of a concern as the economy has strengthened, as unsecured debt declined and as delinquencies and defaults stayed in line with past years.” Operating costs have been cut when possible, she adds.

Overall, “the pandemic has strengthened our financial operations,” Buchanan says. “We’re much more focused on informed forecasts now. Now we do it monthly, and we have in-depth sessions with our business lines and departments to improve our rolling forecasts. It was more work at first, but now is part of our routine.”

“2020 was not a great year for our income statement,” observes CUES member Derek Fuzzell, chief financial and strategy officer of  $253 million PAHO/WHO Federal Credit Union in Washington, D.C., which serves employees of the Pan American Health Organization and the World Health Organization.

Interest rates plunged and assets repriced in greater amounts and faster than liabilities. “The return on our investment portfolio took a dive,” he says. “Net income was squeezed, but we weathered the storm effectively and didn’t need to sell any assets.”

Early Pay-Downs

Mortgages pushed up loan growth a bit, Fuzzell reports, while credit card outstandings fell as people paid down balances. Due to layoffs and work-from-home arrangements, he explains, some members in the D.C. area sold a car they no longer needed and paid off that loan. “Fortunately, we had great mortgage production,” he adds.

To pick up some yield in 2021, he is considering more loan participations. Delinquencies were low and came mostly from members who were struggling and missing payments before the virus, he notes.

Karl Pagel
4Front Credit Union
Not all the loans (we made in 2020) are ideal for our portfolio strategy, so we cherry-pick the ones that fit and sell the others. We try to avoid undue concentrations of any one loan type or maturity.

PAHO/WHO FCU did make one strategic investment that paid off: It put money in its pension plan. “Back in June, it looked like a good time to add stocks,” Fuzzell says. “The market was low and would rebound at some point, so we put $7 million in the plan in $1.5 million increments.” Because the plan is 65% stocks, “we saw a big payoff there.”

2021 will be a slow year, Fuzzell expects. Some mortgage refinancing will still trickle in. Those based on dual incomes couldn’t refinance until one unemployed partner went back to work, he illustrates. The run-up in housing prices in the D.C. market may signal a bubble, he cautions. “There is very low inventory in the repurchase market, which is causing some inflation concerns,” he observes.

Loans: Hold or Sell?

Loan demand was a pleasant surprise for many CUs in 2020. Vehicle lending turned out to be a bonanza, Pagel reports.

“We saw some of our biggest months ever, after a weak spring,” he notes. COVID-weary consumers were not only buying cars but also motorized toys. “It was a phenomenal opportunity,” he says.

Ditto for mortgages. “The housing market in northern Michigan was supercharged in the fall. It was a dramatic pivot.” Some of the mortgages were refis by existing members, but most were new businesses, he notes. “A lot of the refinancing activity had occurred earlier.”

That 2020 boom in lending left CUs with choices that they will live with in 2021, notes Frank Farone, managing director of Darling Consulting Group, Newburyport, Massachusetts. Indeed, the year offered opportunities for asset/liability committees and finance staff members to reshape their organizations’ balance sheets. The big question, he says, is whether they used those opportunities to prepare for the squeeze that is coming in 2021 and beyond or whether they went for 2020 income by selling loans and taking what could be a one-time gain.

Farone has an opinion. “2020 was a banner year for many CUs,” he says, “not for net interest income, which declined, but for fee income on loan sales. A record number of mortgages were originated or refinanced, mostly 30-year fixed. ALCOs had a choice. They could hold the mortgages at historically low rates around 3 to 3.50%, or they could sell them and pocket a nice reward in fee income.

“The fees are a one-time event. And then what happens?” Farone asks. “They put the money in Fed funds or the equivalent at around 25 basis points. That gives them even more liquidity,” he notes. “Three percent on a mortgage doesn’t seem like a great rate, but it’s a lot better than 25 basis points (.25%), a rate that is likely to stick, according to Fed comments.”

Adam Johnson, CEO/principal of c. myers, a financial analysis and strategic solutions provider based in Phoenix, has another opinion. For many CUs, a big tactical question in 2020 was what to do with mortgages they were creating.

“There was no one right answer,” he insists. “The size of the gain from selling was unusually large, so that changed the analysis.” Some CUs simply chose. Others modeled the consequences of their moves. Depending on circumstances, the models led some to sell and some to hold, Johnson reports.

With plenty of loans, is 4Front CU holding or selling? Both, Pagel says. “Not all the loans are ideal for our portfolio strategy, so we cherry-pick the ones that fit and sell the others. We try to avoid undue concentrations of any one loan type or maturity” and picking up some income from the sales has helped to cushion the net income decline. The CU is keeping more auto loans than it used to, he adds.

Net Worth

Lower earnings have eroded net worth at many CUs, Johnson points out, which poses a dilemma. Finance staff members can try to build net worth back to traditional levels or they can take a fresh look at what they need, he explains.

Don’t just assume that rebuilding net worth should be a CU’s top priority now, he cautions. His advice: Collect data and analyze it. Any moves should be part of a coordinated strategy that recognizes and weighs consequences across the whole organization and over an extended timeline, he insists. Set net worth targets in light of the risks and opportunities the CU sees and its risk tolerance.

“2021 will probably be a year of tighter margins and reduced earnings,” he notes, “but also a year that presents real opportunities for enterprising CUs to show strength and improve their strategic positions. The status quo is in play.”

Some CUs do very well at 11% net worth, Johnson observes. Others do well at 9%. There’s no magic number, he notes. If a CU has slipped from 11% to 10% or even 9%, getting back to 11% will carry a real opportunity cost that CUs have to recognize and factor into any decision, he explains. The decision can have huge consequences, he warns. “It needs to be determined by boards and senior managements using a structured financial analysis that connects to strategy.”

Adam Johnson
c. myers
2021 will probably be a year of tighter margins and reduced earnings but also a year that presents real opportunities for enterprising CUs to show strength and improve their strategic positions. The status quo is in play.

One way to recover net worth is to cut expenses, he notes, but if the CU stops funding strategic initiatives, that could help income and net worth in 2021 at a real cost to the future of the CU, he points out.

At some point, capital is king, observes Claude A. Hanley Jr., partner in Capital Performance Group, Washington, D.C., and most CUs are coming off a year of eroding capital or net worth. “Keeping capital adequate is essential; it has to trump any growth strategy,” he warns. And the quickest effective way to raise capital ratios, unpleasant as it may be, is to shrink the balance sheet by selling assets, perhaps including older investments that have higher yields and will command a good price.


A third key decision is what to do with the liquidity bulge. Liquidity is close to 20% across the CU industry, Hanley notes, which is huge, and could go up more with another round of stimulus checks. That surge won’t recede any time soon, he suggests, so it’s safe to extend investment maturities.

The investment portfolio at PAHO/WHO FCU grew from $75 million to almost $100 million during 2020, Fuzzell reports, while the average yield fell from 2.25% to 1.15%. Current investments are yielding just 8 basis points for Fed funds and up to 50 basis points for securities tied to LIBOR, he says. At those rates, going long doesn’t seem rewarding, he indicates.

The starting point, Farone insists, is to run off liquidity by cutting deposit rates to the bone even if they are already historically low.

“Bring down CD rates,” he says. “You don’t want to encourage members to go long. Peg CD rates to Federal Home Loan Bank advance rates, minus one-eighth of a percentage to start. What will happen? Nothing, except maybe some ‘hot money’ leaves. Forget competition. Deposit yields have become close to irrelevant to members. If you do lose a big deposit or two, you’re probably losing a negative spread on that account.”

Asset Yields

The best solution and the biggest challenge for finance committees and ALCOs is to increase the yields on earning assets safely, Hanley notes. "You might gain a basis point or two by playing with investments, but to gain more than that, you have to consider other earning asset classes or other risk tiers,” he says. “You have to do it prudently, but you probably have to do it. Most CUs can’t save much more on deposit costs or overhead. You have to stay in business, and that depends primarily on making profitable loans.”
Maturities also matter, Farone points out. That’s why booking and holding fixed-rate mortgages, even at current rates, makes sense—those risk-adjusted rates are about as good as a CU will get, he suggests. “Without adequate asset yields,” he warns, “CUs may not have enough margin to cover overhead.”
Capitalizing on that opportunity may come from using sophisticated, AI-supported models to find ways to put on higher-yielding assets without increasing actual risk. The solution is all in the algorithms, says Jesse McGannon, VP/advisory services for Strategic Resource Management Inc. (, a CUESolutions provider based in Memphis. “It’s possible to use data analysis to accept 30% more loans without increasing default levels,” he says, or to reduce defaults by 15%, keeping the same level of approvals. These are staggering numbers.”

ALCO Changes for 2021

Asset/liability committee meetings should feel different these days, says Farone. “Change the focus. Change the conversation, and, most importantly, make sure you have the right people in the room,” he urges. The conversations that take place will make a difference; different ALCO meetings will produce different outcomes.  

An effective ALCO, Farone says, is the right people with the right strategy using the right software. Don’t underestimate the power of this committee. Its decisions, informed by models, will determine the CU’s financial performance. “Remember, the purpose of using ALM models is to raise questions,” he says. “And those questions should lead to more questions that ultimately lead to effective strategy development and action.” cues icon

Richard H. Gamble writes from Grand Junction, Colorado.

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