3 Ways Rising Rates Affect Your Balance Sheet



Michael Oravetz

Since the turn of the calendar year, financial markets have experienced significant change. After severe flattening at the end of 2017, swap and treasury securities have sold off in anticipation of a rate hike by the Federal Reserve in March, and potentially two to three more throughout 2018. The 2/10-year treasury spread has rebounded to 61 bps following a decade-long low of 50 bps in early January. As of March 12th, the 2- and 10-year yields sit at 2.26% and 2.87%, respectively. Economic sentiments remain largely optimistic as higher growth and inflationary expectations persist, commonly associated with higher interest rates and steepening yield curves.


The rise in long-end yields has pushed mortgage rates higher. At December month-end, the national average offering rate for a 30-year fixed mortgage was 4.08%; as of March 9th, that rate had increased to 4.41%. Despite the rise in rates,2017 was the strongest year in credit union history for mortgage volume. Over $174 billion in 1st mortgages were granted (originated) in 2017, on the heels of a then-record $172 billion in 2016.

Figure 2illustrates the changes that the CU industry has experienced. First, the composition of the typical credit union balance sheet is evolving. No question, credit unions play a large role in consumer lending.Short duration assets such as auto loans are a flagship credit union product; indirect auto lending, for example, has grown in popularity, even as relatively high credit costs and punitive dealer fees plague marginal return. However, focusing exclusively on consumer lending can often hamstring an institution from meeting the ever-evolving needs of the member. The recent low-rate environment has catered to mortgage borrowers, and credit unions have been happy to oblige, opting to fund an increasing number of more profitable, longer duration assets.


As rates rise, though, every institution should remain cognizant of the potential effects to the balance sheet, particularly for those with high concentrations of mortgage loans.Compared to consumer loans, mortgages have significantly more interest rate risk. Let’s examine three metrics that help demonstrate these differences: economic value sensitivity,economic capital ratio, and earnings-at-risk.

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