How Credit Unions Can Grow and Meet Their Members’ Needs in 2024
Article
FEB 29 2024
Rethink the mortgage marketplace, be prudent in consumer lending and aim for higher per-member balances
As I discussed in my article last week, “What credit unions should know about the economy and interest rates in 2024,” economic conditions and the interest rate environment go a long way toward determining viable growth opportunities in both lending and deposits. When prioritizing their product offerings, however, credit unions must also factor in their position as stewards of their members’ financial well-being.
In this article, the second of three in a series, I’ll cover ways in which credit unions can meet their members’ needs while also promoting growth.
SIDEBAR
Home mortgage originations
Refinancing activity has cratered; the purchase market, although below its 2021 peak, is resilient.
The mortgage marketplace
This area has well and truly been turned on its head, and credit unions are having to adjust by abandoning historical areas of strength, such as refinancing. We recommend they embrace areas they’ve often avoided – namely, the purchase market and home equity lending.
1. Refinancing is dead
We don’t see refinancing coming back any time soon (possibly for as long as four to five years from now). Refi is, of course, almost 100% driven by interest rates. As rates have risen, refinancing has ground to a halt. From 2021 to 2022, the volume of refinances fell by three-quarters, and from 2022 to 2023, it fell another 50%, according to the Mortgage Bankers Association. Homeowners sitting on mortgages in the 2% to 3% range have no incentive to refinance. Homeowners who borrowed at 7% or 8% don’t yet have the equity to be able to refinance.
2. Home-equity lending is growing fast
For that very large swath of homeowners with both favorable mortgage rates and massively increased equity value in their homes, home equity products can be quite attractive. With the direction interest rates are likely to head in 2024 (we think lower, to some degree, but stable), the marketplace for home equity lending should continue to represent a strong growth opportunity.
As an industry, credit unions haven’t focused much on home equity lending since the great financial crisis of the late 2000s. Home equity lending was viewed as a major contributor to the crisis, and the trauma of that experience drove many credit unions away from it. We think the housing market sits on a much, much stronger foundation than it did 15 years ago, and home equity loans and lines of credit will appeal to many potential borrowers while also serving credit union needs for mortgage-related products to sell to their members.
We advise credit unions to investigate newer home-equity products, including the combination equity line/loan. This product gives homeowners the flexibility to deploy the loan both as a standard loan, with regular monthly payments of a set amount, and as a line of credit, which functions much like credit card borrowing (although more attractive to borrowers, owing to the comparatively much lower interest on home equity lending). Basically, this product enables borrowers to carve out tranches of a top-line loan amount and dedicate each tranche as a traditional loan or as a line of credit loan. This suits the homeowner’s need for both kinds of borrowing, but in a single product.
3. It’s time to jump in to the mortgage purchase market
The level of competition in the consumer mortgage purchase market has, over the years, prevented many credit unions from focusing on it. Unfortunately, the competition is only getting tougher. Nonetheless, we think credit unions can’t afford not to enter the fray.
With refi dead, credit unions will have to make up the difference somewhere, and we think that, together with home equity, the purchase market is the answer.
Unlike refinancing, younger generations, especially, have no choice but to enter the purchase market, regardless of interest rates. This is not to diminish the very real issues of affordability and scarcity of supply for younger generations still in the early stages of their earning potential.
A lot of people are concerned about the consumer real estate market. They’re saying home prices are overly inflated and that a potential collapse – or, at least, a meaningful decline in home values – is imminent. We disagree.
The first reason for our confidence in the housing market is demographic: Two very sizable cohorts – younger millennials and, on the horizon, Gen Z – will keep demand strong. Moreover, the supply of housing is still inadequate to fully meet demand, which will prop up prices. And finally, in the purchase market, interest rates are only part of the equation for potential buyers. As we’ve seen even as rates have risen, the purchase market has remained strong.
We advise credit unions to be undaunted and resolute in attacking the purchase market. Granted, relatively new entrants like Rocket Mortgage, which market themselves relentlessly as the easy way to get a mortgage, are growing fast. We see a real opportunity for credit unions to attack the Rockets of the world at their weak point – their rates are meaningfully higher than what credit unions can offer. We’ll discuss this in more depth in the article coming next week.
The consumer lending market
First, let me offer a caveat before discussing this market: It’s very important not to view the consumer-finance market as a single, homogenous entity. As we discussed last week, we think the upper three-quarters of consumers, as defined by income, won’t feel the coming economic softening to any great degree (barring currently unanticipated circumstances). For the bottom quarter or so of that scale, however, credit unions need to be prudent in their lending decisions.
Rising debt levels won’t necessarily preclude lending to members, but it’s important to understand the trends impacting consumer financial health and act accordingly.
Consider automobile lending: According to the Federal Reserve, from January 2020 to the present, automobile lending across the entire U.S. economy (in dollar terms) grew by some 30%. In that same period, the volume of new automobile sales exceeded pre-COVID levels in only two months, according to the U.S. Bureau of Economic Analysis. The takeaway? Many consumers are spending more than they can afford on their cars.
Credit-card usage is another instructive case: In the initial post-COVID months, there was a rapid decline in credit card balances across the entire system. Many observers thought – mistakenly, as it turns out – that the consumer was getting right with their debt and turning over a new leaf of financial responsibility. Instead, in the last three years (since mid-year 2021), there has been a very rapid growth in balances across the system. Credit unions must take this reality into account when making lending decisions.
New financial products
We think there’s opportunity for credit unions to adapt products like buy now, pay later (BNPL) to their members’ needs. An evolution of the old layaway system, BNPL offers consumers a new financing option with the instant gratification of getting the product at the time of financing. BNPL is now lodged into our economy in a very significant way – much more so than many people understand.
BNPL is largely demographically driven: younger people and lower-income consumers are more likely to use it. It’s something of a mixed blessing for consumers in that it can be easy to accrue numerous BNPL purchases – called BNPL stacking. Before they know it, borrowers may have more financed purchases than they can keep track of (or pay off as quickly as they’d like to). BNPL can, therefore, be a contributor to deteriorating consumer financial health.
We think, however, that when done the right way, BNPL can offer a big benefit to consumers. For example, consider the young new homeowner who needs a $2,000 refrigerator but can’t afford to buy one outright. Financing by credit card, meanwhile, is unattractive for any number of reasons. If a credit union can offer a BNPL option to that young homeowner, and if that credit union can leverage their role as trusted advisor in suggesting and deploying that option, BNPL can be an attractive, financially responsible option.
Deposit strategies
Credit unions remain under pressure on the deposit side, and we don’t see a great deal of relief in the near or medium term. It’s proved challenging to find enough deposits to fund the lending that credit unions need to make, which makes deposit strategies a critically important focus in 2024 and beyond.
From the onset of COVID, cash infusions from the government and the monetizing of the federal debt spurred significant growth in demand deposits and, most notably, liquid deposits (savings and money market). Liquid deposits, however, have plummeted. Relative to January 2020, the maximum deviation for liquid deposits spiked by some 30%, according to the Federal Reserve. Today, we’re sitting at only a 3% increase relative to January 2020, according to the Federal Reserve.
Certificates of deposit under $100,000, meanwhile, have soared relative to January 2020. CDs sit today at 68% over the January 2020 baseline, according to the Federal Reserve. This is not an entirely welcome development for credit unions, however, in that credit unions are paying more for these deposits than is sustainable, thus severely eroding margins.
SIDEBAR
About Raddon
Raddon combines best practices in research and analysis with consulting and technology solutions to help institutions achieve sustainable growth and improve financial performance. Raddon has been providing innovative research, insightful analysis and strategic guidance to financial institutions since 1983.
Demand deposits have maintained the great majority of the increase they saw relative to January 2020 (up 215% versus a maximum deviation of 228%), according to the Federal Reserve. Much of this growth represents the behavior of the upper end of the consumer market as well as business checking deposits, which remain high.
Credit unions will need to focus on deploying effective pricing strategies in 2024 and beyond. That means driving the right kinds of behaviors from the membership, both as individual members and the membership as a whole. Most importantly, recognize that not all members are rate driven. Deploy deposit pricing strategies that require the member to commit to the organization in terms of greater relationship (especially balances) in order to get the best rates. Our research has always shown that the strongest performing organizations get there by driving to higher balances per member.
Ride the economic tailwinds
Even in a weakening economy, there will still be many opportunities for credit unions to drive growth while also satisfying their members’ best interests. In next week’s article, the final piece of this three-part series, we’ll cover the industry and demographic trends that credit unions need to grasp and harness to their benefit. After all, it all comes down to retaining members and attracting new ones. By understanding this last component, you’ll be in a better position to successfully sell the products discussed above.
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