NCUA Chairman Todd M. Harper during a meeting of the NCUA Board in Alexandria, Virginia.
As Prepared for Delivery on September 21, 2023
Thank you, Eugene, for the update on the performance of the National Credit Union Share Insurance Fund in the second quarter of 2023 and for the overview of the fund’s projected equity ratio. And, thank you to everyone on your team and the Office of Chief Economist for their hard work in preparing today’s update.
The Share Insurance Fund’s performance in the second quarter of 2023 mirrors the industry’s financial performance during the same period. The fund, like the credit union system, is doing well overall, but there are warning signs that we cannot ignore.
Let me start with the good news. As noted earlier, the rising interest rate environment boosted the Share Insurance Fund’s investment income to $101.4 million in the second quarter, up more than 50 percent compared to this point last year. This increase resulted from the current higher interest rates and the NCUA’s shift to overnight investments, where maturities are yielding more than 5 percent in returns. The number and losses of failed credit unions also remains low at this time, helping to ensure the fund’s strong performance.
And, although it is less than the Board-approved normal operating level, the equity ratio is 1.27 percent, down 3 basis points from last December, but slightly higher than our initial projection of 1.25 percent earlier in the year. This places the equity ratio squarely between the Share Insurance Fund’s statutory floor and the Board’s normal operating level target. That’s a fairly good place for the equity ratio to be.
This brings me to my first question on slide 7. Eugene, would you explain the trends we are seeing in the industry that affected the equity ratio’s calculation at the end of the second quarter? Also, can you explain why we are projecting the equity ratio will remain essentially unchanged at 1.27 percent in December?
Thank you, Eugene for those clarifications.
Now, in looking at slide 4, some stakeholders may be concerned with the reduction in the Share Insurance Fund’s total assets this quarter. However, this reduction of more than $400 million reflects unrealized losses, a product of the rising interest rate environment and the NCUA’s use of mark-to-market accounting methods. In the long term, the fund shouldn’t incur any losses on these assets as the NCUA intends to hold them until they reach full maturity. Eugene, is that assessment of the situation, correct?
Now, let’s turn to the warning signs. Economists are forecasting an economic slowdown, although not necessarily a recession, later this year as the lagged effects of elevated interest rates take hold. Moreover, the recent downgrade in Moody’s credit ratings for several regional banks signals ongoing stress on the financial system’s funding and economic prospects.
And, the credit union system isn’t immune to this financial stress. In fact, the NCUA is seeing rising levels of interest rate and liquidity risk within the system. We also see signs of emerging credit risk, especially among families with increasingly stressed household budgets and the post-pandemic uncertainties in the commercial real estate market. These risks are playing out in rising delinquency rates for various loan types, including auto loans and credit cards, that are reflected in the latest publicly available call report data.
This financial stress is also reflected in the increasing number of composite CAMELS code 3, 4, and 5 credit unions. As noted on slide 10, assets in composite CAMELS code 3 institutions increased sizably in the last quarter, especially among those complex credit unions with more than $500 million in assets. We have also seen more credit unions fall into the composite CAMELS code 4 and 5 ratings during the second quarter. The increase in the level of reserves in the Share Insurance Fund — more than $6 million since last quarter — is tied directly to the number of troubled credit unions we are seeing.
The continued high levels of interest rate risk can increase a credit union’s liquidity risks, contribute to asset quality deterioration and capital erosion, and place pressure on earnings. In fact, several credit unions, including those with more than $1 billion in assets, are already experiencing an impact on their performance. Other issues — including the reinstatement of federal student loan repayments, rising costs for property and casualty insurance, and consumers drawing down the last of their pandemic-era savings as inflation erodes their buying power — will affect already strained household finances going forward.
Eugene, based on the trends we are seeing, do you expect the number and level of assets in composite CAMELS codes 3, 4, and 5 credit unions to increase in the coming months? Should we be surprised if these numbers grow considerably over the next six months, especially among our larger credit unions?
Thank you, Eugene for that important and sobering insight. All of us should be prepared for a deterioration in the system’s composite CAMELS ratings later in the year and into next year. So, I cannot emphasize this enough: credit union executives, supervisors, and boards of directors must remain ahead of this trend by remaining diligent in managing the potential risks on their balance sheets and when monitoring economic conditions and the interest rate environment.
The NCUA will, of course, continue to monitor credit union performance and mitigate risks through the examination process, offsite monitoring, and tailored supervision. In addition, the NCUA is coordinating with other federal financial institutions regulators to ensure the overall resiliency and stability of our nation’s financial services system. And, the NCUA Board will closely watch credit union and Share Insurance Fund performance in the quarters ahead, so we may take necessary actions to maintain the system’s stability, safeguard consumers’ share deposits, and ensure the Share Insurance Fund’s strength.
Thank you, Eugene, for your thorough briefing today. That concludes my remarks. I now recognize Vice Chairman Hauptman.