The HealthScore for the quarter sits at 6.098, a somewhat surprising increase of 1.53% year-over-year. Why somewhat surprising? We would have expected, under normal circumstances, for the second quarter to have behaved similarly to the first, continuing a year-over-year score decline trend – but the COVID response forces of shutdowns, stimulus, and forbearance helped turn the tide. While we’re happy to accentuate and revel in the positive, we very much appreciate that the challenges heading into Q2 still exist. Absent the COVID support enjoyed in Q2, the next few quarters could prove challenging.
Driving the Gains
So what actually did drive the overall HealthScore gain? A few things. First, there were incredible increases in specific component scores, namely Asset Growth, Cash and Short-Term Investments, and Deposits Per Member. Asset Growth and Deposits per Member scores increased 83.94% and 10.34% respectively driving the Cash score up 26.8%. These gains were no doubt the direct result of income provided by COVID stimulus coupled with lower spending levels due to shutdowns.
The Influence of Asset Growth
Given such a sizable shift in assets we of course expect other asset-based scores to see related action. Let’s look at the three most impacted by underlying asset growth: Operating Expense, Return on Assets, and Net Worth. The Operating Expense ratio is calculated by dividing expenses by average assets. The increase in the denominator, assets, far eclipsed any changes in operating expenses – meaning that the score for operating expenses went up. Return on Assets went down for similar reasons as did Net Worth.
Credit Risk Preparation
In addition to asset growth, Return on Assets and Net Worth were also influenced by preparations for future credit risk challenges. Many credit unions have been provisioning more for future loan losses. The expense incurred to strengthen Allowance for Loan Loss accounts in preparation for possible future write offs means less net income and lower capital growth – for now – and additional downward pressure on scores for both metrics. But the Texas ratio, a ratio that looks at the relationship between long-term delinquencies plus other real estate owned, and allowance for loan losses plus capital, slightly increased year-over-year. Why? More funds set aside relative to actual delinquencies – which improved year-over-year. Just to be clear, we don’t think that trend will last.
Negative Pre-COVID Trends Continue
There are critical challenges that continue on from pre-COVID times, and that will be exacerbated by lingering COVID influences. Namely, poor scores for Loan Growth and Membership Growth (and Borrowers per Member too but we don’t have the space to cover that one as well). The Loan Growth score saw a large decline – 35.98% – and that is on top of a large decline seen in the same period last year. In other words, the decline this year was calculated on Q2 2019 scores that were themselves poorer than the previous year. All this to say that loan growth was softening pre-COVID and Q2 saw it worsen still. In fact, Q2 saw the largest drop in score in the history of our score calculations, topping the previous largest drop of 33% set in Q3 2010. Remember those days?
The Membership Growth score saw negative movements similar to Loan Growth. The score declined 17.65%, beating Q1 2020’s record-setting decline of 17.31%. Prior to that you have to go back to 2013 to find membership growth score declines anywhere close to what we’re seeing this year.
By the way, there is a tight link between Membership Growth and Loan Growth, mainly due to credit union engagement in indirect lending. The indirect channel continued to slow in Q2, and as a result so too did loan and membership growth for credit unions exposed to the channel.
And one more thing… there was quite the mortgage application boom in Q2 that made keeping up with applications difficult. Some CUs had to resort to waiting lists, and some even suspended some real-estate based products such as HELOCs, thereby further hampering loan growth, and possibly membership growth opportunity.
Where is the Income?
We mentioned above that Return on Assets and Operating Expense scores look at income and expense relative to assets, with Q2’s asset growth resulting in score weakness for Return on Assets and score strength for Operating Expenses – but to really understand potential income challenges we look to Efficiency, which tracks the relationship between income and expense directly. Efficiency scores dropped 16.59% in Q2. What drove the decline? The underlying Operating Expense score is only slightly stronger as compared to the same period last year – but the underlying Return on Assets score is notably weaker. So the culprit is income, meaning that expenses were ‘flat’ on weak income.
Here are a few things we’re likely to see going forward:
- Worsening scores for Delinquency as forbearance allowances wind down.
- Possible (slight) increases in Loan Growth scores depending on CU mortgage portfolio strategies, and whether strength in car sales persists (extra stimulus was used by some for car upgrades, and others made purchases out of fear of using public transport and ride sharing services).
- Likely declining Asset Growth as stimulus winds down and consumers get back to spending (albeit tepidly).
2020 looks to remain ‘interesting’ till the end.
If you ever want to discuss credit union health, let us know! We’re always happy to help you dive into industry performance, or even the performance of your own credit union. Also, some CUs have us (virtually) drop in for a full board update. We charge a very nominal rate for a one-hour trend/education session. If you are interested let us know by completing our online contact form.
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