All Investments Are Not Created Equal

Data shows how some credit unions are able to obtain a better investment return than others.

 
 

Investment rates are at a record low, and credit unions across the country are deploying different ways to make the most of excess funds; however, it is difficult to find a solid return these days. Currently, the industry averages a 1.14% return on investments. That’s less than a quarter of what the industry average was in 2007. So what makes some strategies outperform others? A dive into data from the 5300 Call Report offers some guidance.

In the comparisons below, credit unions are divided into quartiles based on their investment return. The average asset size in the quartiles ranges from $88.1 million for the bottom quartile to $245.8 million for the largest quartile. The top quartile posted an average return of 1.63% as of Dec. 31, 2013. That’s 49 basis points above the credit union industry average and is more than four times the return of the bottom quartile.

INVESTMENT RETURN BY QUARTILE
Data as of December 31, 2013

Invest_Return

© Callahan & Associates | www.creditunions.com
Source: Callahan & Associates’ Peer-to-Peer Analytics

The mix of the investment portfolio is a key driver of yields. As of Dec. 31, 2013, bottom quartile credit unions held 60.4% of their investments in cash compared to only 12.3% for top quartile credit unions. Credit unions in the top quartile have invested nearly the same proportion of their portfolio, 64%, in agency securities. Credit unions in the middle quartiles, meanwhile, have a higher proportion of their holdings parked at banks or savings & loans — approximately 16% for both quartiles compared to 8-9% for the extreme quartiles.

INVESTMENT COMPOSITION BY QUARTILE
Data as of December 31, 2013


Invest_Portfolio

© Callahan & Associates | www.creditunions.com
Source: Callahan & Associates’ Peer-to-Peer Analytics

Maturities also impacted yields, with the credit unions that reached out further on the yield curve achieving the highest yields. The top quartile credit unions held 56.7% of their portfolio in three-year investment terms while the bottom quartile held just 11.8% of their portfolio in three-year durations. Overall, there has been a slight extension in the maturity profile of the entire credit union industry. Investments with durations of three years or longer now comprise 34% of the portfolio versus 25% in 2012. This is in part the result of the slowdown in mortgage prepayments and agency bonds no longer being called.

INVESTMENT MATURITIES BY QUARTILE
Data as of December 31, 2013

Investment_Maturities

© Callahan & Associates | www.creditunions.com
Source: Callahan & Associates’ Peer-to-Peer Analytics

Liquidity needs also play a role in the performance of credit unions in the different quartiles. With loan-to-share ratios of approximately 69% as of year-end 2013, credit unions in the top two quartiles are more liquid than credit unions in the bottom two quartiles. Credit unions in the third quartile posted a loan-to-share ratio of 72.2% while credit unions in the bottom quartile posted a LTS ratio of 75.5%. More liquidity among the higher performers gave them a larger portion of assets to invest compared to the lower performers.

If lending growth continues to outpace deposit growth, as it did in 2013 for the first time since 2007, credit unions will have fewer dollars to invest in the years to come. However, if rates start to rise in 2015 — as the Federal Reserve anticipates — then credit unions will enjoy greater returns on the investments they are able to make. Regardless, credit unions must remain vigilant when it comes to changing interest rates and balancing internal liquidity needs, as data shows members are looking to credit unions for loans more now than they have in recent years.

 

 

 

March 10, 2014


Comments

 
 
 
  • This is an important topic. I believe that the investment portfolio is an underutilized asset in the credit union industry. Too many credit unions kept a high percentage of assets in cash telling themselves and\or their boards they were "being conservative". They were not being conservative but were making a big bet on an increase in rates. Others use a ladder of bullet agencies generating poor returns. Too many buy callable agencies - a bond with a terrible risk \ return profile and don't take the time to investigate other investment alternatives.
    Brian Clarke
     
     
     
  • The priority for investment management should be safety, liquidity and then yield. Traditionally the role and purpose of investments on a credit union's balance sheet is to provide a hedge to interest rate risk, liquidity and finally income. Our middle name is credit. The primary role of a credit union is to provide loans to members. A recent article pointed out that Langley FCU had viered from lending to such an extent that investments became the primary earning asset. If Congress intended Credit Unions to be an investment club they would have said so in the Credit Union Act. Your article begins with the discussion of yields. I do not see that as the proper focus for credit unions. The question should be have we done enough to make loans to members? Have we offset the interest rate risk of our balance sheet with how we invested and how we manage the rest of the balance sheet? Have we allowed enough liquidity to meet loan demand and potential share drawdowns? I would rather see the discussion focus on how well the credit union manages the balance sheet and then look at investment yields. You point out that those with the highest loan to share ratios have lowest investment returns. That is entirely due to how they manage the balance sheet--investments must be liquid when the loan to share ratio is high.
    Henry Wirz
     
     
     
  • This is interesting data at first blush - can you cross reference the data above with two additonal factors? First - Average ratio of loans of the institutions included above to total assets? All else being equal, a CU that has a higher level of lending activity will park investments in shorter, more conservative investments with the expectation they will loan them out, with the converse generally being true. Second - ROA of institutions referenced above versus peer averages? If a CU is generating a great investment return, but earnings of the instituion overall are not benefitting, perhaps a change in strategy is in order?
    Anonymous
     
     
     
  • I had very similar questions. I just ran a regression of Yield on Investments vs. ROA for our NCUA peers. That's my go to, down and dirty check to see if what is being discussed really matters. Nearly zero correlation, which is what I expected. Credit Unions that make ROA from investments aren't necessarily 'better', they just earn their money differently. I can gurantee that the corrlation between Callahan Financial Services and the credit union's who purhcase their investment portfolios which are being hocked in the 'article' below is very strong!
    Anonymous
  • Thanks for the questions. You are correct that the credit unions with the lowest investment yields have the highest average ratio of loans to total assets and that it has an inverse relationship with their average investment yield. You are also correct that ROA is being driven by loan yields in the current environment, with the industry's average loan yield being nearly 4.5 times its current average investment yield. Although loans are the driver of earnings, we wanted to write this article to look at investment returns since credit unions' portfolios have grown significantly in the past few years.
    Andrew Bolton
  • Good Morning, What is the composition of other investments? Thank you CHarles
    Charles Lanzrath
     
     
     
  • Hi Charles. Thanks for the question. Other investments is made up mainly of capital or other investments at corporate credit unions, CLF stock, FHLB stock, Federal Reserve stock, and common trust investments, among other things.
    Andrew Bolton