Credit unions have increased loan growth and in 2012 managed to outpace the growth of their banking competitors. However, there is considerable ground to make up from a 25% loss in market share in the period from 2007 to 2012. One other issue that continues to plague the industry is growth in net yields — meaning market share is being bought, by and large, with pricing not necessarily a widening of delivery channels. In order to sustain market growth and yield, the credit union must expand lending channels and increase efficiencies.
How, then, can credit unions regain lost market share at a time when consumer loan demand is also up? They need to grow more comfortable with and manage lending risk so they can offer the type of loan products their members need — at the time and place they need them. For most credit unions struggling to increase loan-to-asset ratios, there is a type of loan or group of loans they are unwilling to provide. That unwillingness is usually the result of either a past bad experience or a lack of comfort with the risk those type of loans present. Therefore, the way to increase loans in a highly competitive market place would be to find out what happened in the past that made things go wrong and identify the risks so it can originate future loans without falling into the same pitfalls.
Many credit unions across the country will not make RV loans because the potential for loss is high. The collateral can depreciate quickly and, because it is a non-essential purchase, many consumers are willing to let go of the collateral when times are bad. But many lenders do offer RV loans and extended terms to borrowers, and many credit union members have taken advantage of these extended-term, low-payment loans with other lenders. So, how do other lenders do it? They understand the risks and model their buying and pricing around those risks.
For example, a lender might be presented with two buyers with the same income and credit score. One buyer has five years of credit experience where the other has 30. When financing “toys,” it’s important the borrower has a proven payment record over a number of economic cycles, especially when that loan has the potential of being in the portfolio for a number of years. Someone with a limited credit history might not yet have been tested in an economic downturn. Debt-to-income ratio is also important, as is the type of debt the borrower currently has. Then, of course, skin in the game or money down is of great importance.
These are factors we perhaps know from common sense, but how can we know for sure? By monitoring the portfolio using these characteristics, the credit union can validate if assumptions were correct or not. If they were not, and things begin to turn for the worse, they will be able to react more quickly if they’re conducting ongoing portfolio management. One credit union has reported it can’t trace any of its losses back to these origination characteristics. In fact, every loss it incurred was because of a job loss, divorce, or death.
This is probably true for most credit unions. Few consumers take out loans intending not to repay them. The question is: How will they be able to withstand one of these life events if they were to occur? Lenders can get a better understanding of that by studying their own portfolio against those origination characteristics. Not every loan where the borrower loses their job is a loss. So, it’s up to the lending executives to determine what impacts the ones that do. Is it LTV? Time on the job? As mentioned earlier, it might simply be credit experience.
The credit score alone will not reveal this to the lender. It only predicts the changes of default based upon the performance of loans during an observation period. It’s incumbent upon the lender to add the remaining variables that impact severity of loss. The credit union’s own portfolio performance based on selected risk characteristics can be a better predictor of future loss severities than the credit score alone.
It’s like the story about the tennis player who complains to his doctor about his shoulder pain. He says, “Doc, it hurts when I do this.” The doctor quickly replies, “Stop doing that.” As lending professionals, it’s up to us to make the right diagnosis and stop doing the things that hurt us the most. Like the athlete above, the answer is not to give up playing tennis but to stop doing what causes pain. For credit unions, now is not the time to be on the lending sidelines. We simply need to understand what the risks are and avoid them.