The NCUA's presentation on the state of the credit union system using data from June 30 is insightful. The slides and notes are available for download here.
A close review of the slides is useful because:
The data highlights the strong and improving state of the credit union system. With rising ROA, lower delinquencies and charge-offs, stable capital levels, significant decline in number of credit unions with net losses, the data represents "a truly positive portrait of the industry."
It contains points of emphasis for the examination and what the Agency is looking for in each area.
One CEO, due for an exam, had this reaction to the slides and the implications of current examination practices:
Interesting slides and actually helpful, in a way. It lets us know what NCUA will be looking for on its annual visit next month.
Obviously NCUA has taken a look at the problems in troubled credit unions and arrived at the set of conclusions presented in the slides. It may miss the point that many of these problems wouldn't have been much of a problem if it weren't for the most severe economic downturn in decades.
I often tell folks the primary reason we aren’t having problems has less to do with quality of management than it does with blessings of geography. Were we in Southern California, I believe we would be in the same boat as many of the credit unions in that corner of the world. During the run-up to the collapse of the housing market, credit unions were faced with either making affordable mortgages to members on rapidly appreciating real estate using 40-year and interest only loans or not making mortgages at all. And, if you didn't make mortgages and were a large credit union, you would be left with trying to make your revenue from vehicle loans. The most efficient way of making vehicle loans is indirect lending. And if you weren't making mortgages or vehicle loans, then you weren't making money. So I'm not sure what NCUA would have had these credit unions do to build capital if they prefer lower concentrations of mortgages and less reliance on indirect vehicle loans.
My other thought is the quality of the examination force for NCUA varies widely. Although most are no doubt getting the same message from Alexandria, some are taking the information and haranguing their credit unions to avoid risk, no matter how well it is being managed. Some examiners simply don't have the experience or judgment to apply the information in the slides, so they default to risk-avoidance mode.
Last year we earned a special examination from NCUA on its mortgage loan program because from our Call Report it noticed that our mortgage loan losses had increased by something like 235%. "Wow," it said. "That's a lot!" So they came on sight with a team of three special examiners only to find out that our losses had gone from $40K to $134K (on a portfolio of several hundred million dollars). In other words, our losses had gone from nothing to next to nothing in dollar terms, yet it focused not on the dollar losses but on the percentage increase. I'm concerned this may be an example of the amount of analysis put to the numbers.
A truly well-run credit union in the southern part of the state, about $400 million in assets, had its local NCUA examiner write in his report, "the credit union is practicing unsafe and unsound practices" by not requiring proof of income on 100% of consumer loan applications! Just what every CEO wants to see in his examination report. Here's the rest of the story: This is a credit union with overall delinquency of 0.52%, loan losses of 0.18%, 12% net worth, and an ROA of something like 75 basis points. Yet the examiner no doubt was told that loans without proof of income are riskier than loans with and chose the risk-avoidance route rather than taking the time to understand what was really going on.
To be fair, I'm not sure the examiners are given the time to really look at the numbers they're seeing. So they glance at a number, apply it to some sort of scale, and arrive at a conclusion from this limited analysis. Considering the environment of constantly moving the examination cycles up, indoctrinating new examiners, and hearing from on high that it's time to be more aggressive in its exams, well, should we really expect anything different from regulators?
Time and PCA Problem Resolution
It is clear to me that NCUA is working as hard and as fast as it can to clean up the troubled credit unions and to prevent any new credit unions from entering the abyss. I was most struck by your statement, Chip, that due to the nature of the capital-from-earnings model (where credit unions only build capital over time) that time is just what is needed to extract those credit unions under PCA [prompt corrective action] from their current situation. Yet NCUA isn't interested in giving the necessary time; it's only interested in cleaning up as quickly as possible. The entire industry will be hurting from this hurry-up, risk-avoidance approach for years to come.
Still, there's something to be said about the data in the slides. Like anything else, risks poorly understood or poorly managed will cause problems. I think NCUA assumes that if the risks are present, that by definition it means a credit union is not far from trouble; this kind of thinking is our biggest enemy right now.
I'm going to look at their data more closely to see what we can learn from it. The trend from NCUA is a more aggressive approach to the risks identified in the slides. Aggressive in the sense that if you have one of these risks, you're likely to receive some sort of administrative action; 75% of credit unions are now operating under at least a DOR [document of resolution].