THE Credit Union Lesson from SVB and Regulation

In a news conference following the failed Bay of Pigs invasion of Cuba, President Kennedy remarked:  “Victory has a thousand fathers, but defeat is an orphan.

The SVB’s failure proves this adage untrue.  The press and numerous pundits have already assigned multiple parentage: the CEO and management, the Fed’s rapid rate increases, regulatory and examination shortcomings, the external auditor’s clean opinion, the Silicon Valley customers $40 billion twitter run, Trump’s deregulation in 2018 and the Biden administration DEI policy objectives.

When everyone and everything is to blame, then no one is accountable.  Just another “black swan” event. With more investigations/hearings to come, each new revelation will just add to the piles of condemnations.  No lessons taken away.  More regulations of course, for this is the default response whenever the barn door is left open.

A Spotlight on One Factor

From all these commentaries, I want to highlight one aspect that contributed to overlooking this risky situation. This factor has just become a part of the credit union regulatory eco-system.

In responding to my analysis earlier this week, Doug Fecher, the retired CEO of Wright-Patt Credit Union in Ohio, commented:

This situation makes me wonder if NCUA’s new “RBC” standards would have flagged the risks to SVB’s balance sheet. From what I can tell, much (most) of SVB’s investments were in “risk-free” treasury bonds and high quality agency securities, which in NCUA’s RBC formula would have earned some of the lowest risk multipliers.

To me it is another example of the folly of RBC-style risk management regimes … and why NCUA was wrongheaded in its pursuit of RBC.

This point of view is not limited to Doug’s observation.

During his time as Vice Chair of the FDIC, Thomas Hoenig challenged the agency’s reliance on risk-based capital requirements.  He questioned both the theory and practice, pointing to the lending distortions which contributed to banking losses during the Great Recession.

He wrote about the SVB failure in this commentary:

The regulator apparently relied on the bank’s risk-weighted capital standard for judging SVB’s balance sheet strength. Under the risk weighted system government and government guaranteed securities are not counted as part of the balance sheet for calculating capital to “risk-weighted” assets.

This allowed the bank to report a ratio of around 16%, giving the appearance of strongly capitalized bank. However, this calculation failed to account for interest rate risk in its securities portfolio or the risk of having a highly concentrated balance sheet. It misled the public, and apparently the regulators.

In contrast, if the regulator had focused on SVB’s ratio of equity capital-to-total assets, including government securities, the ratio falls to near 8 percent; and if they had calculated the ratio as tangible capital-to-assets (removing intangibles and certain unbooked loses from capital) the ratio would have fallen to near 5%.

What this would have disclosed to the world is that the bank’s assets could not lose 16% of their value before insolvency but only 5%, a stark contrast.

Had the regulator not relied on the misleading risk-weighted capital measure, it might have take actions sooner. A simple capital-to-asset ratio, tells the regulator and public in simple, realistic terms how much a money a bank can lose before becoming insolvent. The regulatory authorities need to stop pretending that their complex and confusing capital models work; they don’t.

RBC and Credit Unions: A First Birthday

RBC became the surrogate capital ratio for all credit unions with assets greater than $500 million one year ago on January 1, 2022.

Before this in a September of 2021 analysis, Why Risk Based Capital is Far Too Risky. Hoenig is quoted:

“A risk-based system  inflates the role of regulators and denigrates the role of bank managers. 

We may have inadvertently created a system that discourages the very loan growth we seek, and instead turned our financial system into one that rewards itself more than it supports economic activity.”

RBC and Asset Bubbles

Shortly after the critique of regulatory incentives induced by risk weighted assets, in Asset Bubbles and Credit Unions (JANUARY 10, 2022) the consequences from potential Fed tightening were noted:

When funding looks inexpensive and asset values stable or rising, what could go wrong?

The short answer is that the Fed’s inflation response will disrupt all asset valuations and their expected returns.

The distorted results  caused by RBC was presented in Credit Unions & Risk Based Capital (RBC): A Preliminary Analysis in February of this year.  Among the findings:

The 304 credit unions who adopted RBC, manage $822.7 billion in assets.  But the risk weighted assets total only $479 billion.  That 58% ratio is the NCUA’s discounting of total assets total by assigning relative risk weights. and,

One credit union with assets between five and ten billion dollars, reports standard net worth of 12.5% and an RBC ratio of 48.3%.  

This February analysis using June 2022 data of RBC credit unions showed that:

250 of these 308 credit unions reported unrealized declines in the market value of investments that exceeded 25% of net worth.   Four credit unions reported a decline greater than 50% of capital.  This was before the five additional Federal Reserve’s  rate increases through the end of the year. 

RBC’s primary focus is credit risk, the loss of value from principal losses from loans or other assets.  Balance sheet duration mismatch is not captured as are other common management errors:  concentration in either product or market focus, limited or no diversification of product or market, or  just simple operational mismanagement.

These common challenges become amplified by insufficiently considered non-organic growth forays such as third party loan purchases or originations. Whole bank acquisitions are an example of such risks often accompanied (disguised?} by growing amounts of the balance sheet’s intangible asset, goodwill.

The RBC proxy indicator for safety and soundness creates a distorted impression of real institutional risks.   Managers learn to game the system so that boards, members, and regulators fail to understand the institution’s total financial situation.

And when along comes a change in underlying assumptions, like the Fed’s rate increases, the previously unrecognized vulnerabilities quickly appear.

RBC creates for some institutions a theoretical capital ratio that is nothing more than a “regulatory  house of cards.”  SVB will not be the last example.

As Doug Fecher recommended in his 2016 comment letter on the proposed rule, “RBC should be a tool, not a rule.”

To his credit,  Kennedy learned from the Bay of Pigs misjudgments when the Cuban missile crisis occurred in 1962.



An “Important Message From Our President and CEO”

Immediately following Silicon Valley Bank’s (SVB) failure, credit unions and banks sent messages to their members or customers.  They affirmed that  their institutions were safe. It was also common to point out that that they did not have SVB’s business model or its exposures.

Effective communication is an art, especially in a crisis.  The audience is used to receiving marketing promotions.  This situation is very different from those routine messages.

This special contact should be authentic (even personal), drafted for the event, and include relevant facts for the specific circumstances.

The following are examples from two CEO’s, one from a bank and the other a credit union.  Following each is a response from the audience.

March 13, 2023

Dear Customers and Friends of VeraBank, (posted on the bank’s web site’s landing page)

I want to take this opportunity to address what is going on in the financial markets, regarding the orderly liquidation of Silvergate Capital Bank, the closures of Silicon Valley Bank and Signature Bank, and how it relates to VeraBank.

It understandably creates worry any time there is a failure in our industry. Let me reassure you, these banks are nothing like VeraBank, and we have no exposure to the issues leading to those niche banks’ downfall.

Both Silvergate and Signature Bank focused heavily on volatile crypto industry, and Silicon Valley Bank was the largest bank serving start-up technology businesses and venture capital firms involved in that industry. These banks did not practice the prudent diversification of revenue and risk, unlike VeraBank and the great majority of community banks in this country. For instance, at the close of 2022, 97% of Silicon Valley Bank’s $175 billion in deposits were uninsured, and they only had $12.5 billion in cash on hand to cover those deposits. As of closing this past Friday, only 30% of VeraBank’s deposits are uninsured, and we have over $928 million in cash on hand or 87% of our uninsured deposits in cash on hand to cover any customer liquidity needs. I can assure you that is a very high level for our industry.

In other words, where Silicon Valley had only 7.1% of their uninsured deposits covered by cash on hand, VeraBank has 87% covered. We also have liquidity sources that could fairly easily increase our liquidity by close to twice the amount we have now. At VeraBank, we have always understood the importance of good liquidity and risk management. VeraBank is funded with stable local deposits from the communities in which we do business and not the kind of “hot” and unreliable money that funded the three institutions that are now failing.

VeraBank has been through many good and bad economic times, and we continue to operate with the same conservative philosophies that have served us well for over 93 years

Most recently we went through the Great Recession of 2008-09, the ups and downs of the oil and gas markets of the last 15 years, and a global pandemic, and we have not missed a beat.

Actually, it has been just the opposite at VeraBank: we have thrived because we understood the importance of risk management. We understand that we serve each of you and do not dare put your money at undue risk.

Please do not confuse VeraBank with these other banks and others you may hear about in the weeks to come. I am very confident in our bank and how we protect our customers. Please reach out and talk with any of my 500+ colleagues if you have any concerns at all. Let me provide you with my cell number, 903-649-8790, so you can feel free to text or call me directly if you would like to talk about these issues.

Thanks for your continued support,
Brad Tidwell

The response:  according to an evening business news report, Tidwell received over 700 calls spending most of his day on the phone.

VeraBank was established in 1930 at the height of the Great Depression, is a privately-owned community bank that serves East and Central Texas with its network of 38 conveniently located branches in East and Central Texas and has $3.5 billion in assets.

A CredIt Union CEO’s Email to Members



I’m pleased to report that Golden 1 Credit Union continued to thrive in 2022 and finished the year in a strong financial position. Throughout the year, our 1.1 million members were able to rely on Golden 1 to deliver financial solutions with value, convenience, and exceptional service. Please view our 2022 Annual Report for more details.

For 90 years, Golden 1 Credit Union has been a safe haven for our members’ money and a trusted partner for the financial products and services they need. Golden 1 exists to serve our members and we take our responsibility to you and your trust in us very seriously. That’s why we employ prudent risk management practices in our decision-making, including diversification of our portfolios, protecting Golden 1 and its members in volatile economic periods.

As the nation’s seventh largest credit union with assets nearing $19 billion, Golden 1 Credit Union is a well-capitalized financial institution with more than $1.3 billion in net capital. Golden 1 Credit Union also has access to more than $10 billion in available liquidity to absorb any potential impacts of shocks within the financial markets.

Safe and secure since 1933, we remain steadfast in our commitment to ensuring our members can thrive financially.

Thank you for being a valued member and putting your trust in us.


Donna Bland
President and CEO
Proud member and employee since 1994


A Member Responds:

Ms. Bland,

Suggestion: If you are going to send out an email blast starting with “I’m” as in “I’m pleased to report…” make sure that your Member/Owners (?) can contact you personally (and not have to guess at an email address because you may be too busy to respond to us plebeians…).

As a credit union that is supposedly member owned, WE (your members) should have an open line of communication with transparent abilities to see how our credit union is run on a daily basis.  

Again, this includes open lines of communication to ANYONE in our credit union, including a directory of staff.  As a member that is hearing impaired, a telephone is not a particularly viable option but email certainly is. . .

This is the first email that I have received concerning the operations of G1 since becoming a member over a year ago.  There should be email blasts to indicate G1 annual reports as well as opportunities for election to the board of directors…

This email is meant to be a frank/direct/open suggestion for improvement of member communications with the actual member/owners of G1.

Thank you,

A Comment

Each reader or CEO can choose which approach best fits their style.

As the credit union member suggests, this kind of member contact should be more frequent.  It would include other items that the owners (not customers) would find useful or relevant, not just when a special event occurs.  For most art generally improves with practice.

Credit Unions and “Proper” FinTech Partnerships

Ancin Cooley , founder and principal of Synergy Credit Union Consulting, has just released a six minute video addressing a key strategic question: How to assess a Fintech business “partnership?”

In the video he uses an analogy that illustrates the difference between a symbiotic and a potentially parasitic relationship. You can watch it here.

I believe his illustration also relates to other forms of third-party business arrangements.  For example, indirect auto lending is an important source of auto loan volume for many credit unions.   The challenge is who is the credit union’s customer? The dealership or the borrowing car buyer?  Can it be both?

Take a look.  Note his observation that not all Fintech relationships are the same.






Subordinated Debt: The Fastest Growing Balance Sheet Account in Credit Unions

In 2022 subordinated debt issued by credit unions grew to $3.381 billion, a 257% increase from December 2021.

The number of credit unions using this form of temporary capital grew from 105 to 150. They represent about 7.3% of total system assets.

While still a very small percentage (1.4%) of the system’s total year end capital, its use is highly concentrated in a few credit unions.

NCUA is presenting a final rule on subordinated debt at this Thursday’s board meeting.  A point of interest will be how much detail is given the board and public about how credit unions used the funds, the various sources, and the reliance on this debt to meet capital compliance ratios.

These details are especially relevant today when bank failures wiped out not only all stockholder equity and retained earnings, but also all bond debt.

Rented Capital or Buy Now, Return Later

By rule subdebt is an unusual financial instrument.

Subdebt is reported as a liability, that is a borrowing, on the credit union’s books.  But because of the structure of the debt, NCUA considers it to be capital when calculating net worth for RBC-CCULR and low-income credit unions.

Subdebt can be sold to other credit unions as well as outside investors. Purchasers perceive it to be an investment, but technically it is a loan to the credit union which makes it as an eligible “investment”  for credit unions to hold.

In the event of credit union failure, the subdebt is at risk if all the credit union’s capital is depleted.

A Financial Growth Hormone

Unlike traditional retained earnings capital, subdebt is not free, with the interest rate varying depending on the structure and the credit union’s financial situation.

Because its inclusion in computing capital ratios is time-limited, the most common justification given by credit unions for raising the debt is to accelerate balance sheet growth.  Book the capital upfront, then leverage it for additional ROA to have increased earnings to repay the “borrowed” capital down the road.

This financial leverage requires raising more funds matched with earning assets to achieve a spread, or net interest margin, to make the process earning accretive. Buying whole banks is one obvious tactic to accomplish both balance sheet growth goals at once.

The process refocuses credit union financial priorities from creating member value to enhancing institutional financial performance through leverage.

Most Use Is by a Few Large Credit Unions

Community development credit unions are major issuers of subdebt.   The two charters under the Self-Help brand have together raised over $700 million.  Hope FCU in Mississippi and Latino in North Carolina have issued over $100 million each.

Bank purchases have been an important part of other credit union’s use of debt:  VyStar, GreenState, and George’s Own for example.

In other situations where the amounts are more modest, the intended use is less clear.  Is it just a form of “capital insurance” to meet the increased capital ratios of RBC/CCULR?   Is it to “test the waters” to see how the process works? Issuing subdebt is not a simple effort as for example, opening a FHLB account.

The Most Important Missing Rule Requirement

Subdebt has been bought by banks, insurance companies, investors and even other credit unions.

Sometimes the events are announced publicly either by the broker facilitating the transaction or the credit union.   The purpose is rarely specified other than to seek new opportunities for. . .  and then fill in the blank with a generality.

It is the members who pay the cost of the debt. The interest on the debt is an operating expense that comes before dividends.  If the only use is capital insurance or assurance, then the members should be informed as to the terms, cost and role of this approach to meeting regulations.   It is a management and board responsibility to be transparent and accountable to their owners.

If the goal is more ambitious, to capture new growth possibilities, the disclosure is even more critical.   Financial leverage, especially non-organic growth, increases risk.

In both instances the commitments undertaken can extend as far as ten years.  That term reinforces the need for full disclosure so members are aware of the commitments being made on their behalf.

The most important requirement that should be part of the revised subdebt rule is for full transparency for each transaction.  The purchasers of the debt are given all the details of the borrowing as their funds are at risk should the credit union fail.

Shouldn’t the member-owners also be informed of the commitments and terms made using their long-standing loyalty which, in reality, is underwriting the transaction’s terms?

It’s an opportunity for credit union members to be treated as actual owners, not just customers.





What Do This Weekend’s Bank Failures Mean for Credit Unions?

Over the weekend banking regulators closed two banks, the $206 billion Silicon Valley Bank (SVB) and the $110.4 billion Signature Bank in New York.

The precipitating events  were runs by depositors.  In each bank over 90% of depositor  funds exceeded the FDIC’s $250,000 insured limit.

Earlier in the  week, SVB announced its intent to raise additional capital after reporting  sales of long-term treasury securities at a loss of several billion dollars.   The bank had a significant duration mismatch between its customer deposits and long term treasury investments when the Fed began its monetary tightening in March 2022 .

The bank is reported to have lost over $40 billion in deposits sparked by social media posts  (a “twitter run”) advising the bank’s tech startups and venture fund customers to withdraw their deposits.

Signature Bank had a concentration of business with crypto clients and legal firms and was likewise vulnerable to large deposit outflows.

The banks’ failures will erase all shareholder and debt capital.  Depositors’ balances will be insured in full and available for immediate withdrawal.   The FDIC as conservator will attempt to find buyers for the books of business, so intends to keep operating their services. Any losses from the resolution of the banks will be paid by the FDIC through its assessments on the entire system.

More Than a Problem Bank Rescue

To prevent a system wide financial crisis-a contagion-from occurring in institutions with  similar balance sheets of underwater securities and high amounts of uninsured deposits, the regulators announced a special lending program for all banks.

Loan terms will be up to one year, not the normal 90 days.  The amount borrowed can be the par, not market value, of pledged securities (no haircuts).

This will give banks time to work through their duration mismatches by raising more capital or portfolio rebalancing.  The cost of borrowings will be high.   Earnings may be adversely affected if  loans become a large source of funds.

The quick action by the Fed, FDIC and Treasury is intended to prevent a  loss of market confidence leading to  panicky withdrawals from regional banks which have comparable balance sheet situations.

What does This Mean For Credit Unions?

Before this weekend, liquidity was growing tighter for all credit unions. Share growth was negative in the second half of 2022.

The early results from 2023 show continued  deposit challenges.  Consumers are once again learning about the returns and liquidity in money market funds.

As reported in 2022 yearend numbers,  1,193 credit unions had borrowed a total of $99.6 billion, or 4.6% of total system assets.  Within these totals, 797 credit unions reported $92.3 billion from the FHLB system, up 318% from the year earlier.

In contrast  436 credit unions reported loans of  $2.3 billion from the corporates. Several corporate CEO’s reported that their overnight short term settlement loans had risen from only a couple of dozen a year ago this time, to over 250 per day in the recent months.

In Callahan’s Trend Watch call for Q4 2022, a whole new section of charts portrayed the  system’s changing liquidity picture:  the drawdown of investments and increased levels of external funds.  The presentation  reported that  borrowing credit unions’ loan to share ratio was 82%.  For  those without borrowings, the ratio was 58%.

The Risks for Credit Unions

Credit unions are part of the country’s financial system.  If consumers or the public begin to doubt the system’s reliability, these concerns will also affect credit union members.  This is the fear of a financial “contagion” which the Fed’s borrowing plan is meant to forestall.

For example, I was sent an email from San Mateo Credit Union to its members on Friday afternoon after the SVB failure.  It read in part:

Dear member name,

Amid today’s news of the closure of Silicon Valley Bank, I want to take this opportunity to assure you that San Mateo Credit Union (SMCU) remains safe, sound, highly liquid, and in excellent financial condition.

Our financials as well as our investments are structured very differently from Silicon Valley Bank. As one of the top performing community financial institutions in the state, SMCU has a very solid liquidity position. . .

CU Challenges and Advantages

Some of the same balance sheet factors causing these bank failure are present to a limited degree in several credit unions.   These factors include underwater securities,  duration mismatches with longer term loans, and a potential for an ROA earnings squeeze competing for funds.

The advantage credit unions have versus these failed banks is there are minimal amounts of uninsured deposits versus the  90%+ they held.  The vast majority of credit union core deposits are “sticky,” unlikely to run off at a twitter post.

Like banks, credit unions have yet to see a major uptick in problem loan credits.   The two weekend failures were not from credit defaults.

Rather investments and loans were made in a low cost of funds environment that now look less sound.  The resolution  of these situations will depend on how the broader economy trends.

Learning from the FDIC, Fed and Treasury

A major gap in the credit union system  is the coordination and use of NCUA resources supplied by credit unions.  The federal or state banking regulators worked in common purpose to respond to specific incidents and create a systemic plan to manage potential ongoing concerns.

Even though the cooperative regulatory tools are managed by a single NCUA board, they have not been positioned for a similar response.

The first line of liquidity mobilization for credit unions is the corporate system.  However its lending ability options are severely  limited by regulations imposing balance sheet duration caps and funding options from 2010.   Less than 2% of borrowings at December 2022 were from corporates.

The second most important source of funding is the FHLB system, eleven  cooperative institutions that are directed and owned by their members.   There has been no comparable credit union operational partnership or planning with the Central Liquidity Facility.   The CLF has not had a loan outstanding since 2009.

NCUA board members have called out Congress for failing to extend the CLF’s COVID era borrowing and membership flexibility.   But it is unclear how those reinstatements would make the CLF any more relevant than it has been in the past.

The CLF is supposed to be a public/private partnership, but the reality is one sided.   NCUA seeks more credit union members’ shares, but wants to retain all say in how the facility is used and any programs developed.

Finally the NCUSIF has fallen prey to the same duration misjudgments as the failed banks.

As of January 2023 only 7.7% (or $1.7 billion) of the $21.8 billion fund was in cash.  The fund’s average weighted maturity was over 3.2 years.  Its market, or immediate liquidity value, was below par by over $1.1 billion.

The credit union system was built on multiple forms of self-help and self-financing-not private capital or government funding.   Capital from retained earnings acts as a financial “governor” on ambitious growth plans.   The NCUSIF and CLF (when operational) were jointly designed  and cooperatively funded.  The system did not rely on taxpayer resources or bailouts as credit unions are exempt from federal taxation.

In addition to the cooperative  FHLB model and this past weekend’s federal regulatory coordination, there is another lesson for credit unions.

The FDIC and Fed stepped in with funding  to save these institutions’ operational capabilities so that  customer payrolls and transactions could continue as normal.   Ultimately the regulators are seeking a buyer for the firms’ business customers.  And  as noted by  one commentator, to make a profit on the situation.

This approach minimizes any loss to the FDIC while continuing service to customers  some of whom have relied on these institutions for decades.

The Overriding Unsettled Issue

The prospect of a “financial  contagion” may have been stopped.  Time will tell.  The overriding issue is what will the Fed continue to do now with rates—keep raising? pause?   How will the greater caution these events imply for the financial community affect the economy?   How will the possibilities of a slow down, continued growth, or possible recession emerge?

While institutional stability may have been achieved, the longer term economic and rate outlook is still uncertain.

History may be useful in this pivotal moment. The previous largest bank failure ever–Penn Square in 1982–was just a prelude to a much wider bank and S&L culling during deregulation.   And the 2008 Lehman Brothers and Bear Stern failures led to a period of extended “market dislocations” in terms of securities valuations and market transactions.

In one case the system responded with no failures even though over 80 credit unions and banks had uninsured deposits in Penn Square.   The CLF stepped up with loans, the insurance fund was redesigned, and NCUA examiners assisted in workouts.

In the 2008 crisis, NCUA went forward without credit union input, just insurance assessments.  Two years after the 2008 financial failures, it created a credit union specific crisis in September 2010 by liquidating five corporates.  That resolution continues on 13 years later. Surplus payouts are approaching $5 billion as opposed to loss projections of $13.5 to $16 billion for the system when the liquidations commenced.

In one case the agency worked with credit unions for solutions.  In the latter one, it did not.  Should there be credit union difficulties this year, that difference in approach will be critical to retaining member, credit union and public confidence in a separate cooperative financial system.


The Art of Prudence

One writer’s key lesson from Sophocles’ “Antigone” is that fanaticism results when public actors fail to practice the one virtue capable of moderating the  excesses of human nature:  political prudence.

What is one of the most frequent excess? the Temptations of Power

The  American  Franciscan priest and writer on spirituality,  Richard Rohr, has described this all too human aspect  from his religious perspective.   I paraphrase his cautions.

One fatal snare is to misuse power. “Maybe we could say it’s a temptation to be spectacular, to be special, to be important, to be showy. The tempter says, “Tell these stones to become bread” (Matthew 4:3). When we’re young, we all want that. We all want to stand out. We want people to notice us. We want to be something special and to do something special.” 

Another excess is the temptations of power whether politically earned or from one’s professional position. “It’s not inherently wrong. There has to be a way we can use power for good. But until we’re tested, and until we don’t need it too much, we will almost always misuse it. If we’re not tested in the ways of power, very often we end up worshiping power to have power.”

When Prudence is Lacking

It is easy to confuse disagreement with a person in authority versus someone who  is  misusing or even failing in their position and accountability.

I would call out three  frequent symptoms of lapses in leadership:

  1. The explanation for an unfinished /failed effort that it was another person or organization that is responsible for what did or didn’t happen.
  2. The defense of a failed outcome asserting the cause was a lack of resources or authority.
  3. The resort to cliches to explain one’s actions such as: “better service for members”, “promoting  safety and soundness”  or  “the banks have this option and so should we.”

Positions of power are generally temporary.   The tenure can be especially problematic  if the responsibly of the role is not fully grasped.  Especially in situations in which a leader does not acknowledge agency-that is personal responsibility or accountability:  “staff, our consultant, our experts recommended this action; this is how others do it or, the classic, this is how we have always done it.”

Prudence is also a personal quality.  In successful leaders  it can be marked  by  both empathy and humbleness.

I  believe there are daily examples  from  peers or colleagues from which one can learn.  Especially when sharing initiatives, experiences and challenges of mutual interest.

My  former partner Bucky Sebastian would sometimes comment on  the views or actions of  persons in authority whom he believed in error:  “Everyone has a purpose in life, even if it is to serve as a bad example.”

Credit union leaders -CEO’s, boards, regulators, trades and even vendors-are public actors.  Prudence is cultivated  in public arenas  by the respectful exchange of arguments among those attuned to both their personal and their community responsibilities.

Identify  those leaders to make common cause.

Learn from those who fit Bucky’s description.





Are Strategic Assessments Lagging Current Events?

Wednesday’s money market reactions to Chairman Powell’s Congressional testimony caused rates to rise to levels that invoked historical comparisons.

The two-year Treasury notes yield touched 5.08%, its highest level since 2007.

The yield curve remained inverted.   The spread between 2- and 10-year yields this week showed a discount larger than a percentage point for the first time since 1981. That’s  when then-Fed Chair Paul Volcker engineered rate hikes that broke the back of double-digit inflation.

The Pace of Change

The references to 2007 and 1981 reflect an awareness in how markets and organizations  are reacting to the current Fed’s fight against inflation.

Until the Lehman Brothers collapse in the fall of 2008 business leaders and regulators were reassuring the public that things were under control.  It took a high profile failure to bring the leveraged collateralized debt obligations and related financial house of cards to be fully unveiled.  In other words, to wake people up to the market’s financial exuberances.

This rate cycle has seen large failures in crypto based businesses, but failures in traditional businesses have been relatively few.   Some cracks are beginning to show in commercial real estate, but for now, no front page collapses.

As a result many of today’s leaders who have not had to navigate a financial watershed are following a path of slow, adjustment tacking with each change of market outlook to stay on course.

Tacking with Changing Winds

Earlier this month the NCUSIF released January’s results.  They confirmed the November 2022 announcement to increase short term liquidity to over $4 billion.  That shelved, at least temporarily, the much discussed laddering out to ten years which would create a weighted average maturity (WAM) of 4 years or longer.

This change makes sense financially.  Short term rates are projected to stay in their current range through the end of the year.  But is this temporary or has there been a real shift in strategy?

What has been learned from the era of nearly free money and low rates?   The NCUSIF’s January portfolio earned only 1.64%.   The fund’s market value is more than a billion dollars underwater.  This is the result of decisions made in a different financial environment.  It will significantly reduce the fund’s revenue for the next several years.

All of the fund’s financial history shows that a yield of only 2.5-3.0% is necessary to sustain a 1.3% NOL balance.  Is it time to rethink how investments are managed going forward?

Because the FED rate increases were incremental and the ultimate outcome uncertain, the NCUSIF continued to follow practices developed for a different era.

The shift to a much shorter WAM is a good move.  One hopes it also reflects an understanding of the tactics necessary in a “new normal” interest rate environment.

The Fight for Deposits

Liquidity is at the top of  most credit union priorities.   Share growth was negative in the final quarter of 2022.   Competition for funds is increasing and consumer savings rates are at very low levels.

The Fed’s interest rate hikes are intended to slow growth in loans and consumer spending.  The goal is to better align demand with supply and thereby reduce pricing pressures (inflation).

Do credit unions just pull back and accept lower growth, shut the loan window halfway down or go out and engage in the increasingly competitive markets for savings?

One credit union decided to reassess its share strategy and appoint a deposit product manager.  Raising rates was part of the response along with  other ALM tinkering.

But the more fundamental change was to rethink the importance of securing direct deposit as the key to member relationships-and a stable deposit advantage.   Too many borrowing members were from indirect relationships without a savings compliment. Rather than just paying up, the organization is prioritizing direct deposit in its marketing.

Future Lessons from Current Events

While the future will continue to be unknowable, as events unfold they should challenge prior assumptions that now fall into the category, “I wish I had thought of that.”

Many credit unions and NCUA are making multi-year decisions in resource allocations.  Whether these are investments in securities, raising 10-year subordinated debt or just entering new office leases, today’s actions have long term consequences.

The Fed’s increases are intended to cause consumers and businesses to rethink future plans.  A number of credit union initiatives that emerged in the era of low cost funding, may need to be re-examined.

Another likely outcome is that for the first time this century, a more traditional interest rate environment is likely to emerge at the end of the cycle.

As the rise in rates continues several months longer, when the cycle ends, what will that mean for your business model?






Credit Unions and the Evolution of “Buy Now Pay Later” Lending

In 1961 Hillel Black published a book Buy Now, Pay Later to expose the misleading interest rate disclosures of lending firms fueling the “explosion of consumer debt.”

As a reporter her purpose was to “investigate in human terms the breadth of meaning of debt living; what it is doing to all of us in concert and how it affects out individual lives and the lives of our children.”

The Introduction by Senator Paul Douglas, Chairman of the Senate Banking Committee sets the scene: “Today personal debt is edging close to $200 billion; mortgage debt is approximately $140 billion, and consumer debt is about $25 billion. Various devices are used to conceal from the consumer what he is required to pay.” 

Senator Douglas was a fan of credit unions:  “As a borrower from most credit unions, the consumer does receive the true interest rate.”

The chapter titles of Black’s book, set the tone:  Enter the Debt Merchants, The Rub in Aladdin’s Lamp, The Shark Has Pearly Teeth, The Car You Buy Is Not Your Own.

She closes with an endorsement of credit unions with their 12% maximum annual interest, 20,000 institutions and eleven million members covering roughly 6% of the population.   Her ending plea: “Let it not be said that America, in the midst of plenty, suffered its citizens to become a nation of indentured debtors.”

Six Decades Later

I was drawn to the book by its title and the endorsement of credit unions.  CUNA reprinted Black’s article, Buying Credit Wisely, in the NEA Journal of May 1966 promoting credit unions as the preferred consumer borrowing option.

Last week the CFPB presented a 25 page report which profiles the users of today’s Buy Now Pay Later (BNPL), a newly defined consumer financing practice.

It is a study which profiles the borrowing patterns, demographics and credit scores of BNPL users versus a group of non-BNBL customers from survey responses and credit reports.

The study describes the product: BNPL refers exclusively to the zero-interest, pay-in-four (or fewer) installment loan that facilitates purchases at the point of sale.

These credit products differ from traditional installment loans in important ways: the average loan amount is $135 over six weeks compared to $800 for traditional installment loans over a period of 8-9 months; and BNPL is offered at zero percent interest, while traditional installment loans often carry a positive interest rate.

And its growing usage: In the period 2019 and 2021, the number of BNPL loans issued to consumers increased by almost tenfold. Between the first quarter of 2021 and the first quarter of 2022, seventeen percent of consumers borrowed using BNPL.

One finding: Some groups were much more likely than others to borrow using BNPL. In particular, Black, Hispanic and female consumers had a much higher probability of use compared to the average, as did consumers with annual household income between $20,001-$50,000 and consumers under the age of 35.

CFPB Study’s Conclusions

While many BNPL borrowers who we observed used the product without any noticeable indications of financial stress, BNPL borrowers were, on average, much more likely to be highly indebted, revolve on their credit cards, have delinquencies in traditional credit products, and use high-interest financial services such as payday, pawn, and overdraft compared to non-BNPL borrowers. . .

Further, contrary to the widespread misconception, BNPL borrowers generally have access to traditional forms of credit. In fact, they were more likely to borrow using credit and retail cards, personal loans, student debt, and auto loans compared to non-BNPL borrowers.

Finally, the report estimates that a majority of BNPL borrowers would face credit card interest rates between 19 and 23 percent annually if they had chosen to make their purchase using a credit card. . .

Sixty Years Later

Consumer borrowing is an even larger part of America’s financial structure than in 1961.  Consumer spending accounts for 75-80% of the country’s GDP.

The problem of disguised interest rates was resolved with Congress’ Truth in Lending legislation passed in the late 1970’s.

Borrowing options proliferate today.  Many new lending offerings are tied into consumer product sales such as Macy’s or Apple’s credit card promotions.

Credit unions rode this consumer borrowing boom into the present.  They have been seen as the trusted source of fair loan value.

However, the playing field for lending is now level in regards to loan pricing disclosures.  Competition is increasingly focused on other forms of value creation.

The surprise for me in the CFPB update, is that for some (many?) consumers the BNPL was for a majority a much better choice for borrowing than traditional credit cards or other forms of debt.

Will the allure of so-called free borrowing promote greater spending?  It is too soon to know all of the consequences.

What this BNPL history suggests is that market forces can, when the rules of the road are uniform, correct some of the original predatory practices chronicled in the first Buy Now Pay Later report.

That is one outcome  deregulation was intended to accomplish.


Staying In One’s Lane

The new year has opened with a number of reassessments of business priorities decided prior to the rise in rates.  The era of free money is over.  Also  TINA, the belief that there is no alternative  kinds of novel investment decisions.

An example of a foray into a new lane is told in an article, Paradise Lost, Why Goldman’s Consumer Ambitions Failed.

The story in brief.  In 2014 as a means to further its long term growth objectives and participate in the emerging fintech sector Goldman’s leaders decided to transform the Wall street investment bank into  a main street player.  Despite its success in corporate finance, advising heads of state and serving the uber-wealthy, it had no consumer finance presence.

In 2016 it launched Marcus (the first name of Goldman’s founder), and quickly attracted $50 billion in online deposits and an emerging consumer lending business.  The distinct brand separated the firm from any lingering reputation fallout from the 2008-2010 financial crisis.  It also positioned the effort, if successful, to be spun off as a separate fintech business, like Chime.

The effort morphed from a side project to become a selling point to Goldman stockholders looking for a growth story. However, even early on the initiative was questioned by some of “the company’s old guard who believed that consumer finance simply wasn’t in Goldman’s DNA.”

The initiative was placed in the same division that housed Goldman’s businesses catering to individuals. Most Marcus customers had only a few thousand dollars in loans or savings, while the average private wealth client had $50 million in investments.

In addition to increasing low cost deposits to over $100 billion, a major success was winning the competition to partner with Apple’s new credit card for its iPhone users.

Only later did it realize it “won the Apple account in part because it agreed to terms that other, established card issuers wouldn’t. The customer servicing aspects of the deal ultimately added to Goldman’s unexpectedly high costs for the Apple partnership.”

Then reality hit.   Internally there was an ongoing debate about how the initiative should be led. There was turnover of senior staff leading the effort.   The ramp up of hiring and expenses promoting the new business turned into a cumulative loss reported to exceed $2 billion.

The coup d’grace was the dramatic increase in the cost of funds.  The Fed began its upward rate hikes in March 2022. The era of low cost financing was over.

The company pulled back from its strategy, even though its adventure in consumer banking  managed to collect $110 billion in deposits, extend $19 billion in loans and find more than 15 million customers. The future of its GreenSky fintech lending business which it purchased in 2022 for $2.24 billion is unclear.

The bank turned away from its ambition to build a full scale digital bank.  Disrupting the consumer banking market was harder and much less profitable than it had forecast.

Last week Goldman’s CEO Solomon told an CNBC analyst:  “The real story of opportunity for growth for us in the coming years is around asset management and wealth management,”

What Is a Lane?

Staying is one’s lane is not an easy concept to apply.  Most organizations want to expand and grow into new areas.  Making prudent future investments to sustain a credit union is an important management responsibility.

If Goldman with all its all professional talent could not launch a successful fintech bank, is this a case study credit unions might learn from?

The following are credit union initiatives that can have consequences far different from the initial expectations.  Especially as low-cost funding assumptions are rethought and the environment for lending enters a state of uncertainty.

  • Purchases of whole banks at premiums that have created tens of millions of “goodwill” (an intangible asset) on credit union balance sheets;
  • Out of area credit union mergers, even cross country, where there is no market overlap, sponsor relation or advantage to the members of either organization;
  • Direct commercial real estate loans and participations in office buildings to “members” who are professional developers located in cities far removed from funding credit unions;
  • Loan participations purchased in asset classes where repayment becomes more challenging when the economy slows or enters a recession;
  • Investments in the tens of millions in fintech startups to build technology solutions for the digital era but which have a limited customer base and no operating profits. Will OTTI write-downs be required?
  • Expanding FOM’s to geographic areas with no economic or market overlap to the credit union’s core market;
  • Extending member lending programs to serve all consumer market segments from the traditional blue collar borrower to the millionaire retiree;
  • Embracing high profile social issues, disconnected from the credit union’s market or business priorities.

Goldman’s consumer banking entry was the subject of much internal and external scrutiny.   The firm used its internal talent, hired outside proven expertise, bought external companies, partnered with esteemed brands and still could not make the expansion work profitably.

Credit unions often lack the internal process or external pressures to look hard at new lanes.  They rely on third party brokers and consultants who only get paid if the deal closes.  One credit union CEO discussing  a recent whole bank purchase in a far part of the state away  from their historical market said, “It just fell into our lap.”

Unlike Goldman whose results are subject to constant investor scrutiny and market comparisons, credit unions lack the transparency and accountability that mark public institutions.

Staying in one’s lane may appear as lacking ambition or in some instances defeatist.   Given the recent changes in interest rates and uncertainty in economic direction, it could be the most important strategic consideration a credit union makes.



Spring & Annual Meetings-A Time for Renewal

Have you been born again?  As a PK (preacher’s kid) I would occasionally get that question.  If affirmative, the follow up query, is when did it happen?

This view of spiritual life requires an awakening experience.  Preferably with a specific time and place.   A new starting point; a before and after  event.

Renewal, Not Replanting

My understanding is that awareness of the sacred in life is an every day possibility.  A parallel example for this reawakening is spring.

Plants are coming to life almost a month early this year.  Each flower has its own timetable with daffodils and crocus first- followed by tulips, camellias, alliums and many varieties of lilies and iris.

This reemergent beauty occurs in a sequence depending on the sun, how much rain falls, and of course the temperature.   All the conditions in February were favorable for an early spring flower show. The impact of nature’s role on timing will vary; but the  flowers  seem to adapt naturally to whatever conditions occur.

Importance of New Beginnings

Both organizations and plants operate on cycles.  In credit unions it is usually the annual plan with the yearend results showing the “flowering” of an organization’s purpose.  These outcomes could be  making money, growing a key metric, expanding service or products, or in rare instances, just coming through a difficult economic or leadership transition intact.

Following the annual report is a new forecast, a renewal or a focused extension, not starting from scratch all over.  Similarly one can add plants to a garden but most will come back naturally.

In credit unions, the  required Annual Meeting can both celebrate past results and promote new directions.  It is an opportunity  to gain members’ support,  both  in board elections and with thoughtful presentations about the credit union’s direction.

For cooperatives, the annual meeting should be a special occasion to report and honor the  owners.

Woodstock of Capitalism

Berkshire’s annual gathering in Omaha is an example of an Annual Meeting event in the private sector. The press calls the event attended by tens of thousand Berkshire stockholders, the “Woodstock of Capitalism.”

As a prelude, the firm releases its Annual Report.  The most talked about aspect is not the company’s yearend financials, but CEO  Warren Buffet’s introductory letter about the firm’s direction  and his bits of elderly  wisdom.

The Report for 2022 was released last week.  It contains discussions that credit unions might consider emulating.  The following excerpts reflect company  updates and principles Buffet follows. (I added some emphasis)

The openingCharlie Munger, my long-time partner, and I have the job of managing the savings of a great number of individuals. We are grateful for their enduring trust, a relationship that often spans much of their adult lifetime. It is those dedicated savers that are forefront in my mind as I write this letter. . .

The disposition of money unmasks humans. Charlie and I watch with pleasure the vast flow of Berkshire-generated funds to public needs and, alongside, the infrequency with which our shareholders opt for look-at-me assets and dynasty-building.

What We Do

Charlie and I allocate your savings at Berkshire between two related forms of ownership. . .

When large enterprises are being managed, both trust and rules are essential. Berkshire emphasizes the former to an unusual – some would say extreme – degree. Disappointments are inevitable. We are understanding about business mistakes; our tolerance for personal misconduct is zero. . .

Over the years, I have made many mistakes. . . Along the way, other businesses in which I have invested have died, their products unwanted by the public. Capitalism has two sides: The system creates an ever-growing pile of losers while concurrently delivering a gusher of improved goods and services. Schumpeter called this phenomenon “creative destruction.”

Our satisfactory results have been the product of about a dozen truly good decisions – that would be about one every five years – and a sometimes-forgotten advantage that favors long-term investors such as Berkshire. . .

The lesson for investors: The weeds wither away in significance as the flowers bloom. Over time, it takes just a few winners to work wonders.

The Past Year in Brief

Berkshire had a good year in 2022. The company’s operating earnings – our term for income calculated using Generally Accepted Accounting Principles (“GAAP”), exclusive of capital gains or losses from equity holdings – set a record at $30.8 billion. Charlie and I focus on this operational figure and urge you to do so as well. The GAAP figure, absent our adjustment, fluctuates wildly and capriciously at every reporting date. . . The GAAP earnings are 100% misleading when viewed quarterly or even annually.

On Repurchases of Berkshire Shares

Every small bit helps if repurchases are made at value-accretive prices. Just as surely, when a company overpays for repurchases, the continuing shareholders lose. At such times, gains flow only to the selling shareholders and to the friendly, but expensive, investment banker who recommended the foolish purchases.

Almost endless details of Berkshire’s 2022 operations are laid out on pages K-33 – K-66. . . . These pages are not, however, required reading. There are many Berkshire centimillionaires and, yes, billionaires who have never studied our financial figures. They simply know that Charlie and I – along with our families and close friends – continue to have very significant investments in Berkshire, and they trust us to treat their money as we do our own. And that is a promise we can make.

Finally, an important warning: Even the operating earnings figure that we favor can easily be manipulated by managers who wish to do so. Such tampering is often thought of as sophisticated by CEOs, directors and their advisors.

That activity is disgusting. It requires no talent to manipulate numbers: Only a deep desire to deceive is required. “Bold imaginative accounting,” as a CEO once described his deception to me, has become one of the shames of capitalism.

The Last  50  Years

Thus began our journey to 2023, a bumpy road . . . America would have done fine without Berkshire. The reverse is not true. . .

We will also avoid behavior that could result in any uncomfortable cash needs at inconvenient times, including financial panics and unprecedented insurance losses. Our CEO will always be the Chief Risk Officer – a task it is irresponsible to delegate.

Some Surprising Facts About Federal Taxes

During the decade ending in 2021, the United States Treasury received about $32.3 trillion in taxes while it spent $43.9 trillion. Though economists, politicians and many of the public have opinions about the consequences of that huge imbalance, Charlie and I plead ignorance and firmly believe that near-term economic and market forecasts are worse than useless.

Our job is to manage Berkshire’s operations and finances in a manner that will achieve an acceptable result over time and that will preserve the company’s unmatched staying power when financial panics or severe worldwide recessions occur.

I have been investing for 80 years – more than one-third of our country’s lifetime. Despite our citizens’ penchant – almost enthusiasm – for self-criticism and self-doubt, I have yet to see a time when it made sense to make a long-term bet against America.

Buffett’s Rule 

I will add to Charlie’s list a rule of my own: Find a very smart high-grade partner – preferably slightly older than you – and then listen very carefully to what he says.

A Family Gathering in Omaha 

Charlie and I are shameless. Last year, at our first shareholder get-together in three years, we greeted you with our usual commercial hustle. . .

Charlie, I, and the entire Berkshire bunch look forward to seeing you in Omaha on May 5-6. We will have a good time and so will you.

An Example for Credit Unions?

Buffet’s approach to his owners has multiple insights as credit unions prepare for their Annual Meeting.  Can it be a time for renewal?

His comments are honest, open and written to inform owners and reassure their trust.

His leadership principles are clear.  His business priorities are stated with conviction and promise.

His benchmark performance standard is the Report’s first page.  It shows Berkshire’s stock return vs the S&P 500 for every year since 1965. For 2022, Berkshire gained 4.0% and the S&P had an 18.1% decline.

Member-owners will reciprocate management’s respect with loyalty. Virtually every credit union today, like Berkshire, has positive stories to tell members, both financially and enabling self-help. The message is not a marketing campaign or commercial.  Rather the meeting is an opportunity to reaffirm who the credit is and renew the principles guiding leaders-as demonstrated in their own words.

This required process should be a moment of fresh hope, like spring flowers.  It should be a time to present the best of what the credit union does; and to reaffirm the ongoing opportunities to serve one’s community.

Also imitate Buffet.  Make it a fun, family gathering.