Asset-Liability Management at Gem State Credit Union
Tokle, Robert J., Tokle, Joanne G., Journal of the International Academy for Case Studies
The primary subject matter of this case involves the use of GAP analysis to measure the interest-rate risk exposure of a credit union. Secondary issues examined include interest-rate changes in the economy overtime and the Fisher Effect. The case has a difficulty level appropriate for junior level students and is designed to be taught in about 45 minutes. This case could be used for classes in money and banking (economics), managerial economics, depository institutions management and possibly other management courses.
This case could be used to familiarize students with the balance sheet of a credit union and to understand the interest-rate risk that results from the nature of a depository institution's balance sheet. Students will also learn to calculate a GAP analysis for the credit union and to critically analyze the GAP methodology used by credit union management and are asked to offer an opinion on what this credit union could do to manage their interest-rate risk.
Gem State Credit Union (GSCU) is a medium sized credit union located in the mountain west. In 2002, it had $50 million in assets and a relatively healthy capital-to-asset ratio of around nine percent.
Increasingly, the National Credit Union Administration (NCUA) has emphasized that credit unions show that they understand interest-rate risk due to their asset/liability structure and that they are able to manage it. In their examinations of credit unions, they look in the board of directors' minutes for evidence that the board does monitor its asset/liability structure. Also, many credit unions now have an asset/liability management (ALM) committee that typically meet monthly to examine their asset/liability structure and recommend to the board any changes in interest rates or products that are needed to limit their interest-rate risk. GSCU soundly passed their annual NCUA examination in the spring of 2002. This case takes a closer look at the ALM analysis done by GSCU.
Les Norris has been the CEO of GSCU for the past 24 years, having brought it back from the brink of bankruptcy when he was hired in 1980. He is the chair of the ALM committee. Also serving on the committee are Ken Whitmore, VP of operations, John Harris, VP of lending, and Bob Thomas, chairman of the board of directors and president of G&T Economics, an econometric forecasting firm. Members of the ALM committee have worked well together for several years, but recent economic developments have caused a divergence in opinions as to how to set future rates.
WHY IS ASSET/LIABILITY MANAGEMENT NEEDED?
Depository institutions (DIs), which include banks, savings and loan associations and credit unions, have two major types of risks. Credit risk is the risk a DI takes when it makes a loan that may not be paid back in full. When a loan is not paid back in full the unpaid portion must be charged-off, which reduces the DI's capital and profits. DIs try to manage credit risk by screening and monitoring borrowers.
Interest- rate risk results in changes of profitability that a DI experiences from changes in interest rates in the economy. This risk is transmitted through their asset/liability structure, since asset yields and liability costs (largely interest paid on deposits) will have different sensitivities to interest changes.
For example, a classic case of interest-rate risk that caused major problems happened to savings and loan associations (S&Ls) in the 1980's. The major assets for S&Ls were home mortgages, which typically are long-term loans of 15 to 30 years. Also, all mortgages until the mid1970's had fixed-interest rates, as most also have today. However, the major liabilities for S&Ls were savings deposits. Thus, the S&Ls had a maturity mismatch of assets and liabilities. Their assets had long-term maturities while their liabilities had short-term maturities and were much more interest rate sensitive. …