Last year, credit union loan growth reached levels not seen since prior to the recession, and market share in auto and mortgage lending also increased. Kudos!
But now it’s time to focus on the year ahead — one for which the bar has been set high.
The economic outlook for 2016 might be a mystery, but those who prepare for potential risks and opportunities have a better chance at sustaining success than those who do not.
To assist, I’ll put on my wizard’s hat and attempt to divine possible twists, turns, and outcomes that might lie ahead as well as explain how these events could impact members, and by extension, the credit union.
Watch For Hazards
For what could go wrong next year, we turn to the bond market. In short, bearish bond players are betting that a global slowdown will start to impact the United States in 2016. These individuals believe China and Europe growth rates will decline and a stronger dollar will import deflationary pressures stateside.
If that is how things plays out, matching or even coming close to 2015 performance levels will be out the window and the credit union’s next available move will hinge greatly on its credit decisions.
With that nastiest of nasty scenarios accounted for, here are other, more positive ways I see things evolving in 2016.
A major upside of a tighter job market is wage growth, news which credit union members will readily welcome.
Rounding The Bend On Jobs
The United States has enjoyed good to great job growth for four full years, resulting in a tight labor market. Given structural changes in the labor pool, there are simply fewer workers available to hire. Instead of consistent monthly payroll growth of 200,000 or better, I predict we’ll see something on the order of 150,000 to 175,000.
Given that monthly payroll growth needs to hit 75,000 to 100,000 to stay even, the job market should remain healthy in 2016. A major upside of a tighter job market is wage growth, news which credit union members will readily welcome.
Borrowing Gets A Second Wind
Consumers have already shown an increasing appetite to borrow, as exhibited by auto lending. Auto sales reached 17.5 million units in 2015, a pace near the top of historical norms. Things should plateau around this level even with a good economy, but autos could still surprise with better-than-expected results.
Even in the case of solid-but-flat activity, there are two good methods through which credit unions can increase auto loans this year.
The first is through existing borrowers who trade in a car and come to the credit union again for a larger loan. This will increase loan balances even though there is still one loan to the same borrower. For example, a borrower owes $10,000 on a 3-year-old car, trades it in, and borrows $30,000 for a new car — voilà ... instant loan growth.
The second is through increasing market share. Credit unions might not be able to match the 2015 growth rate using this method, but they can come close.
On the real estate side, things will be more complex but still manageable. First mortgage loans currently represent the largest category of loans for credit unions nationwide, and the potential for growth in 2016 depends on rates and location.
For refinances, the 30-year mortgage rate will need to drop to 3.50% or lower to spur growth. For purchases, higher-priced areas will be the most vulnerable to rate increases.
Despite this, I remain positive on the outlook for home buying in 2016.
New builds over the past four years have been strong, and increases in apartment construction have failed to trigger a large rise in unit vacancies or decline in renting. Instead, rent payments have risen in many larger metro areas to the point where owning is less expensive than renting. That’s motivation to buy.
If rates either fall or rise modestly, credit unions should be able to match the 2015 growth rate for purchase mortgages without breaking a sweat.
Inflation And Fluctuation In The Straightaway
If I am right about the economy and job growth next year, a rise in interest rates is not guaranteed. The United States has had four straight years of decent economic growth and good job growth, yet yields have gone nowhere. The Federal Reserve could nudge the funds rate higher, yet longer-term yields could still hold steady and the yield curve could flatten.
The one thing that has held rates down for the past four years — inflation expectations — could continue to do so in the future .
The core consumer price index (CPI) in the United States has held steady at roughly 1.8% the past few years. Considering the historical spread of the 10-year note yield over the rate of inflation is 200 points, the recent spread of roughly 40 basis points makes no sense. Yet expectations for inflation remain anchored well below the actual rate.
The fact is, inflation-adjusted interest rates in the United States are actually negative through their five-year maturity and are only marginally positive beyond that.
A lot of market pundits point to how high U.S. interest rates are compared to Europe and Japan. On a nominal basis, that’s true, but on an inflation-adjusted basis, U.S. rates are roughly on par with the others. All of these figures are priced to a world of deflation; as a result, I believe rates are mispriced.
Stateside consumers spend roughly 70% of what they earn on services and the rest on goods. Over the past three months, service inflation has increased by almost 3% while goods inflation has declined by 0.7%.
Economists might be confident that services are in an acceleration phase, but much of the decline on the goods side of the equation is due to commodities, which have been in a bear market for four years. Any upturn in pricing here would help to flip inflation expectations.
Looking Forward To The Finish Line
I do see some periods of extreme volatility as leveraged bond funds exit long-held positions. High loan growth might be a challenge for some, but interest rates are another story, and this is one low bar I expect credit unions can easily hurdle.
As I mentioned earlier, expected wage increases will help trigger a re-think on inflation by the bond bulls. And as we move further into the year, I think the deflation story will die away.
Along with that, the bond market will begin adjusting to a (new? old? Who can keep track?) world in which investors will want a real rate of return. I am not expecting a huge, sustained jump in rates, but the trend will be higher.
In my opinion, the economy will perform well enough that those who are paying attention and have a plan of action should be able to hit or exceed their targets for 2016.
Make Dwight A TRUSTED Part Of Your Day
Dwight Johnston is the president of Dwight Johnston Economics, the chief economist for the California and Nevada Credit Union Leagues, and the go-to source for industry leaders trying to make sense of the recent financial developments that surround them. Join the ranks of the well-informed and sign up for his “Daily Dose” e-newsletter at trustcu.com today.
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