Will Yarborough, CEO of U.S. Postal Service Federal Credit Union ($206.8M, Clinton, MD), has a stretch goal for his institution: He’d like to see it triple its current share growth rate — which as of third quarter 2016 was 1.00% — and increase the number of new members.
But Yarborough isn’t looking simply for volume.
CU QUICK FACTS
U.S. POSTAL SERVICE FCU
HQ: Clinton, MD
Data as of 09.30.16
“We provide value to our members, and if I bring on a bunch of people who don’t do any business with us, all I’ve done is incur the cost of acquisition,” he says. “We need to understand how revenue and cost play a role on our balance sheet.”
As U.S. Postal increases its member and share base, Yarborough wants the institution to maintain its net-worth ratio, a well-capitalized 11.65% as of third quarter. This is a complicated proposition in this uncertain interest rate environment, which is where asset liability management (ALM) fits in.
The Role Of ALM
Asset liability management plays a role in U.S. Postal’s everyday operations. The credit union’s modeling, which it has developed over the past 20 years, turns hypotheses into test cases and helps the credit union’s board and senior managers make educated operational and strategic decisions.
Will Yarborough, CEO, U.S. Postal Service FCU
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“It’s important we know how we are seeding the balance sheet for future performance,” Yarborough says.
For example, he points to the current interest rate environment. For the most part, Yarborough says, the loans and investments the credit union holds were booked at lower yields than those they are replacing. As a result, future yields could be less than what the credit union has historically earned on these products, which makes the performance and structure of the other components of the financial formula all the more important.
“That impacts the credit union’s net-interest margin and its ability to cover expenses and build reserves,” Yarborough says. “It also plays into the credit union’s philosophy on non-interest income.”
ALM modeling allows U.S. Postal to identify risk limits and see how different variables affect its “net worth at risk” in various interest rate environments.
Click on the graph below to visit Peer-to-Peer Analytics by Callahan & Associates and compare your credit union's performance against U.S. Postal or any peer group of your choosing.
Built into the credit union’s modeling framework are 64 different interest rate environments that have occurred in the past, both in short- and long-term scenarios. U.S. Postal inputs product or services rates, term lengths, and volumes in these different rate environments.
Rate environments that are projected to lose money will deplete the credit union’s net worth. These projected net worth levels are considered the credit union’s “net worth at risk,” and helps the institution identify when it will first start to experience negative earnings as a result of the external interest rate environment and how much the existing business is positioned to earn in favorable rate environments.
It's important we know how we are seeding the balance sheet for future performance.
The Benefits Of ALM
U.S. Postal's Decision Table
The credit union uses this six-column matrix to simulate the effects of different interest rate environments on the profitability of products and services:
The first column shows what the credit union's ROA would be if rates do not change.
The second column simulates the rate environment where short-term rates were at 3% and long-term rates were 5%.
The third column looks at a flat yield curve and the ROA resulting from that.
The fourth column reveals the level of short-term rates where the credit union experiences negative earnings.
The fifth column looks at a high rate environment.
The sixth column shows the dividing line between a net worth ratio above and below 7%.
According to Yarborough, U.S. Postal’s modeling serves two broad purposes. First, it allows the credit union to look at its current book of business and see how it is poised to perform in different interest rate environments. Second, it allows the credit union to make projections on how future product and service additions to the balance sheet will perform and compliment the existing book of business.
“If we want to have an IRA promotion or a car loan promotion, we can put in volume, timing, price, and sales volume estimates,” Yarborough says. “We are also able to input new costs we might incur and see how that will affect our ratios and ROA in current and potential rate environments.”
The credit union uses this modeling to run individual projections and provide quarterly reports to its board of directors. The financial formula is examined on both a year-to-date and monthly basis, as relying on year-to-date alone can be risky, Yarborough says. Monthly data provides early warning signs that may not be as apparent in year-to-date reports.
“Trends and other warning signs can get buried in year-to-date numbers,” he says.
Assess Your Balance Sheet
The ALM/IRR Packet in Peer-to-Peer helps you quickly assess how your balance sheet is positioned for different interest rate scenarios and benchmark your liquidity positions. Contact us to learn more.
At each board meeting, the credit union looks at 10-years' worth of year-over-year comparisons, invoking the old Winston Churchill quote: “The farther back you can look, the farther forward you are likely to see.”
These reports arm U.S. Postal’s decision-makers with the information they need to do their jobs. But that’s just the beginning of it.
“It doesn’t do anyone any good to just hand out a report,” Yarborough says. “It’s what you do with that information.”
He warns of becoming so reliant on third-party resources and data that employees no longer think for themselves — outsourcing thinking and decision-making, in effect, to partner consultancies.
“That’s inconsistent with what we perceive our positions and responsibilities to be,” he says. “If you read through reports and test assumptions, then you come up with questions you might not have known enough to ask or discover something that might never have occurred to you. Those learning moments can be powerful and increase someone’s ability to contribute to the credit union or help us avoid what could be a costly decision.”