Credit Unions and Caisses Populaires SECTOR OUTLOOK 2Q16

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1 Credit Unions and Caisses Populaires SECTOR OUTLOOK 16 August 2016 Summary Results In This Issue Summary Results.Page 1 Sector Financial Highlights.Page 6 Sector Financial Statements..Page 7 Selected Financial Trends...Page 9 The information presented in this report has been prepared using a variety of sources, including unaudited reports submitted to DICO by credit unions and caisses populaires. While DICO believes that the information contained in this report would be useful to readers, and considers the financial statements to be reliable, their accuracy and completeness cannot be guaranteed. Ce document est également disponible en français. Contact Us: info@dico.com Throughout this document, unless specifically indicated otherwise, credit union refers to both credit unions and caisses populaires. Selected Aggregate Sector Performance Indicators As at June Total Sector Assets (millions) $49,303 $44,700 Credit Unions (% of Total Sector Assets) Caisses Populaires (% of Total Sector Assets) Total Number of Credit Unions and Caisses Populaires Number of Credit Unions Number of Caisses Populaires Avg. Asset Size of Credit Unions and Caisses Populaires ($millions) $483 $392 Number of Members (000 s) 1,604 1,555 Regulatory Capital (Aggregate Leverage Ratio) 7.12% 6.82% Credit Unions (Leverage) 6.88% 6.52% Caisses Populaires (Leverage) 8.64% 8.65% Regulatory Risk Weighted Capital Ratio (Class 2 only) 13.97% 13.08% Credit Unions 13.51% 12.51% Caisses Populaires 16.87% 16.48% Number not meeting minimum regulatory capital level 0 0 Liquidity 10.96% 10.54% Credit Unions 11.30% 10.83% Caisses Populaires 8.79% 8.69% Asset Growth 10.4% 10.3% Total Loan Delinquency (greater than 30 days) 0.72% 0.90% Credit Unions 0.71% 0.94% Caisses Populaires 0.77% 0.71% Commercial Loan Delinquency (greater than 30 days) 1.17% 1.51% Credit Unions 1.21% 1.66% Caisses Populaires 0.95% 0.65% Year to Date (annualized) Net Interest Income (Financial Margin) 1.97% 2.08% Other Income 0.61% 0.55% ROAA 0.33% 0.32% Return on Regulatory Capital 4.56% 4.67% Efficiency Ratio (before dividends & interest rebates) 80.7% 81.7% Credit Unions 83.1% 84.1% Caisses Populaires 67.7% 69.6% Unless stated otherwise, all figures reported are as at SECTOR OUTLOOK, August

2 ELECTRONIC PUBLICATION: The Sector Outlook is available in PDF format (readable using Adobe Acrobat Reader) and can be downloaded from the Publications section on DICO s website at Economic Overview In Canada, interest rates are expected to remain low for the foreseeable future with the economic recovery progressing at a very slow pace. Canada's economy contracted by 0.6 per cent in May, as wildfires in Alberta and a slowdown in manufacturing across the country combined to create the worst monthly GDP figure since March Manufacturing output was down 2.4 per cent month over month, the largest decline since January Future growth in GDP is expected to be slow as the adjustment to lower commodity prices continues to affect many sectors across the country. The level of household debt continues to set new highs due in large part to the rapid increase in prices in Vancouver and Toronto. Economists views are split concerning the future direction of housing prices with some forecasting a correction versus others projecting a soft landing with prices leveling out thereafter. The rising prices and low interest rates continue to help keep the demand for residential mortgages strong in the Greater Toronto Area. In July 2016, OSFI issued letters to their regulated institutions advising it will place an even greater emphasis on confirming that financial institutions conduct prudent mortgage underwriting, and that their internal controls and risk management practices are sound and take into account market developments by enhancing its scrutiny over compliance with Guideline B-20 regarding prudent mortgage underwriting practices. In addition, the Basel Committee on Banking Supervision (BCBS) is proposing revisions to the standardized approach for credit risk. Credit unions should continue to adhere to prudent underwriting practices when pricing loans, including stress testing the impact of interest rate increases on the borrower s ability to pay. This is particularly important with the economists growing concerns over a potential real estate correction combined with the high level of consumer debt. NOTE : Income Statement results are based on aggregate year to date annualized information for each credit union. Comparative results may not always agree with previously reported information for the same period as a result of additional information received after the reporting date. Results are based on the latest available information as at July 25, Capital Aggregate regulatory capital for the sector increased to $3.46 billion (7.12% of assets) from $3.01 billion (6.82%) year over year. The increase in capital was largely due to eight credit unions issuing investment share offerings in the latter part of 2015 that raised approximately $300 million representing about 70% of the increase in capital. All credit unions met minimum regulatory capital requirements. Retained earnings represented 62.0% ($2.15 B) of regulatory capital, investment and patronage shares accounted for 36.1% ($1.24 B) with membership shares making up the remaining 1.9% ($65 million). Retained earnings grew by 7.2% year over year (4.4% as a ratio to total assets). Credit unions should ensure their capital management stress testing models appropriately reflect any potential decrease in interest rates. In response to a potential real estate downturn, OSFI also released an update to their Internal Capital Adequacy Assessment Process and have asked their institutions to enhance their stress scenario to require 50% downturn in valuations for Greater Vancouver, 40% downturn in valuations for Greater Toronto and 30% downturn in valuations for all other areas. Credit unions are encouraged to consider amending their stress testing programs to parallel the changes to the stress scenario proposed by OSFI and modifying contingency plans to address potential shortcomings. Growth Sector consolidation continued over the last twelve months with the number of credit unions decreasing by 12 to 102 resulting in an increase in the average size to $483 million. Credit unions declined by 11 to 77 resulting in an average asset size of $533 million compared to caisses populaires which decreased by one to 25 with an average asset size of $270 million. Total assets grew by 10.4% to $49.3 billion, largely due to growth in commercial loans (12.2%), and residential mortgage loans (11.6%). The proportion of personal loans has decreased from 11.3% to 6.5% of total loans over the past five years while residential mortgages have increased from 56.2% to 59.4% and commercial loans from 28.0% to 29.7%. Please refer to the following table for more information on lending activity. 16 SECTOR OUTLOOK, August

3 Sector Lending Activity $ Billions Percent of Percent of Percent of $ Billions $ Billions Total Loans Total Loans Total Loans Residential Mortgage Loans $ % $ % $ % Commercial Loans $ % $ % $ % Agricultural Loans $ % $ % $ % Personal Loans $ % $ % $ % Other Loans $ % $ % $ % $ % $ % $ % Total deposits grew by 8.3%, the highest year over year growth rate in the last 7 years, materially higher than the five-year average deposit growth trend of 6.5%. This compares favourably against the average five-year growth rate for the entire Canadian credit union sector of 4.3%. Demand deposit growth led the way with an increase to 14.4% from 9.2% last year while term deposits increased by 4.1% year over year (6.0% increase in the previous year). This deposit behaviour continues a trend of depositor reluctance to commit to longer term investments due to low returns. The funding gap, the difference between total loans and total deposits continues to grow and has increased from 6.2% in 15 to 8.4% in 16 as credit unions aggressively grow their loan portfolios in order to increase revenue. Insured deposits are estimated to be $27.3 billion or 69.4% of total deposits in contrast to the banking sector with insured deposits of 31% (source: CDIC). The level of insured deposits at credit unions has decreased steadily at an average of 1% per year over the last decade from 81% in Efficiency Ratio Credit Unions Caisses Populaires Banks 83.1% 67.7% 64% The overall efficiency ratio (before dividends and interest rebates) strengthened to 80.7% from 81.7% in 15. However, it remains significantly higher than large Canadian banks at 64.8% (1Q16). Collectively, caisses populaires continue to report efficiency ratios (67.7%) that are closer to bank results. Caisses populaires benefit from increased economies of scale through an integrated model where most back office functions (including credit underwriting and adjudication) are shared. Profitability: Decreasing Over Time Return on average assets (ROAA) increased marginally to 33 bps in 16 from 32 bps in 15. The following table provides the income and expense breakdown for the sector over the last 5 years. Breakdown of Income and Expenses for Sector As a percentage of Avg. Assets Interest and Investment Income 4.04% 3.73% 3.66% 3.59% 3.37% Other Income 0.64% 0.59% 0.61% 0.55% 0.61% Total Income 4.68% 4.32% 4.27% 4.14% 3.98% Interest Expense 1.44% 1.34% 1.25% 1.23% 1.09% Dividend Expense 0.14% 0.16% 0.21% 0.29% 0.32% Loan Costs 0.10% 0.07% 0.05% 0.07% 0.04% Total Expenses 4.22% 3.93% 3.86% 3.82% 3.65% Net Income 0.44% 0.39% 0.41% 0.32% 0.33% There has been a 67 bps decrease in interest and investment income (16.7% decrease) over the last five years as a result of low interest rates driving down rates charged on loans. 16 SECTOR OUTLOOK, August

4 Other income has decreased by 3 bps over the same period to 61 bps as credit unions continue to seek alternative sources to increase income from non-interest earning related sources. Total expenses have decreased by 57 bps over the past five years (13.5% decrease) led by lower interest expenses - down 35 bps (or 24.3%) and non-interest expenses - down 35 bps (or 14.1%). All categories of non-interest expenses decreased over the last five years, led by salaries and benefits dropped by 17 bps over this time period. While credit unions have focused efforts on lowering expenses, it has not been enough to stay even with the 67 bps reduction in gross income, resulting in an overall decrease in net income of 11 bps (or 25%). Credit unions are beginning to explore new avenues to improve profitability through economies of scale by pooling resources to provide shared services. Credit Risk Gross loan delinquency greater than 30 days was 0.72% of total loans, down 18 bps from 0.90% in 15. This was due mainly to lower delinquencies in commercial loans (1.17% vs. 1.51%) and agricultural loans (0.90% vs. 1.34%). The commercial loan delinquency rate decreased from 1.66% to 1.21% year over year while at caisses populaires it increased to 0.95% from 0.65%. In dollar terms, total commercial loan delinquencies decreased from $194 million in 15 to $148.5 million in 16 with the decrease due largely to a $46 million decrease at four credit unions (with a large proportion due to the resolution of 2 large delinquent loans at one credit union). Total agricultural delinquencies decreased from $21.8 million to $15.2 million year over year with two credit unions accounting for $5.0 million of the decrease (due largely to accounts moving from the day delinquent bucket to the less than 30 days delinquent). The total amount of impaired commercial loans decreased by $35 million year over year to $156.3 million from $191.3 million while the percentage of impaired loans has decreased to 1.23% from 1.70%. Over the past year delinquent loan resolutions at one credit union account for $28 million of the improvement in commercial loan impairments. The following chart shows fluctuations in delinquencies greater than 30 days over the past five years for different loan types. Commercial loan and residential mortgage delinquencies have steadily trended downward since the peak levels seen in the years directly after the recession and are now at the lowest level seen in over 10 years. Similarly, loan costs decreased from 0.07% to 0.04% year over year and currently sit at the lowest level in 10 years. 3.00% 2.50% 2.00% 1.50% 1.00% 0.50% Q2 11 Q4 11 Q2 12 Q4 12 Q2 13 Q4 13 Q2 14 Q4 14 Q2 15 Q4 15 Q2 16 Personal Mortgages Commercial Agriculture Total Loan Mix and Yields Total loans grew by 10.4% due to growth in all loan categories with the exception of personal loans. These loans decreased by $77 million (2.7%) year over year to $2.78 billion and continue to represent a declining portion of the total loan portfolio mix at 6.5% from 7.4% in SECTOR OUTLOOK, August

5 Competition in the residential mortgage market and low yields in the bond markets have resulted in floating and fixed rates that are near historical lows, leading to continued strong demand for new mortgages. The average house price as measured by the Aggregate Composite MLS Housing Price Index rose by 13.6 percent on a year-over-year basis in June 2016, the biggest gain since December In the July edition of the Housing Market Assessment Survey, the Canada Mortgage and Housing Corporation (CMHC) reported that prices are overvalued in 9 of the top 15 centres it surveys across the country and the overall level of problematic conditions in the housing market has increased from weak to moderate since April. CMHC noted that price acceleration is spreading to the communities neighbouring Toronto. Liquidity and Borrowings Year over year borrowings increased 29.8% due largely to securitization of residential mortgages in order to make up the funding gap between the growth in assets and deposits. Securitization programs have increased by 39.8% to $4.72 billion from $3.38 billion in 15 while all other borrowings only increased 1.6% to $1.22 billion from $1.20 billion. There are currently 16 credit unions involved in securitization programs. DICO is closely watching the growth in the use of securitization programs by credit unions due to the concentration of this liquidity funding source at a few credit unions. Liquid asset holdings increased by $603 million to $4.91 billion improving the liquidity ratio to 10.95% from 10.54% in 15. This is attributable mostly to increases in deposits at the leagues/centrals held for liquidity. Liquidity at caisses populaires, (8.79%) remains much lower than at credit unions (11.30%). This lower level of liquidity is due in large part to the ability of some caisses to access the Caisse Centrale for funding should a liquidity event occur. In comparison, liquidity of Canada s banks was approximately 11%. The following chart provides a breakdown of liquidity sources. The largest source of liquidity is Deposits in a League or Central (75.1%), followed by Deposits in deposit taking institutions (7.6%), Cash held for liquidity (4.5%) and Securities secured by mortgages and guaranteed by CMHC (4.4%) and Commercial paper, banker s acceptances and similar instruments (4.4%) Sources of Liquidity % of Total % of Total % of Total $ millions $ millions $ millions Liquidity Liquidity Liquidity Deposits in a League or Central $ 3, % $ 3, % $ 3, % Deposits in a deposit taking institution in $ % $ % $ % Canada Securities secured by mortgages and $ - 0.0% $ % $ % guaranteed by CMHC held for liquidity Commercial paper, banker's acceptances $ % $ % $ % and similar instruments Cash held for liquidity $ % $ % $ % Other Sources of Liquidity $ % $ % $ % Total Sources of Liquidity $ 3, % $ 4, % $ 4, % Credit unions are encouraged to stress test their liquidity requirements sufficient to challenge the level of liquidity to which they have access and develop alternative contingency strategies to rectify potential liquidity shortages. 16 SECTOR OUTLOOK, August

6 Sector Financial Highlights 2016 ONTARIO SECTOR Selected Bank Information % average assets*, Year to date at... PROFITABILITY Q 2016 Net Interest and Investment Income 1.97% 2.08% 1.65% Loan Costs 0.04% 0.07% 0.10% Other (non-interest) Income 0.61% 0.55% 1.55% Total Income 2.53% 2.56% 2.80% Total Non-Interest Expenses (Operating Expenses) 2.13% 2.16% 1.81% Net Income/(Loss) before Taxes and 0.41% 0.40% 0.79% Non-recurring & Extraordinary items Efficiency Ratio (% Operating Expenses to Total Income) 83.91% 84.52% 79.20% Efficiency Ratio (% Operating Expenses, before dividends & interest rebates to Total Income) 80.71% 81.69% 64.74% Return on Average Assets (ROA) before dividends etc. 0.43% 0.41% Return on Average Assets (ROA) 0.33% 0.32% 0.85% Return on Regulatory Capital before dividends etc. 5.95% 5.91% 12.96% Return on Regulatory Capital 4.56% 4.67% 5.77% CREDIT RISK, as at the quarter-end Gross Delinquency greater than 30 days (% of total loans) 0.72% 0.90% Gross Delinquency greater than 90 days (% of total loans) 0.39% 0.50% OFF BALANCE SHEET ACTIVITY Off balance Sheet Assets ($millions) 11,279 8,226 (Includes mutual fund sales and administered loans etc.) Income on Off Balance Sheet Activity ( % Other Income) 23.10% 19.57% OTHER INDICATORS, as at the quarter-end Total Number of Credit Unions Total Assets ($ millions) 49,303 44,700 4,700,259 Average Assets per Credit Union ($ millions) Median Assets ($ millions) Regulatory Capital 7.12% 6.82% (as a percentage of net assets) Number of Credit Unions below Regulatory Minimum 0 0 Liquidity 10.95% 10.54% * Year to date annualized unless otherwise stated. Totals may not agree due to rounding 16 SECTOR OUTLOOK, August

7 Sector Financial Statements 2016 Balance Sheet ONTARIO SECTOR ($000) ($000) (Percentage of Total Assets) ASSETS Cash and Investments 5,962,113 5,416, % 12.1% Personal Loans 2,780,394 2,857, % 6.4% Residential Mortgage Loans 25,309,503 22,695, % 50.8% Commercial Loans 12,658,362 11,282, % 25.2% Institutional Loans 100,608 69, % 0.2% Unincorporated Association Loans 41,572 58, % 0.1% Agricultural Loans 1,696,004 1,615, % 3.6% Total Loans 42,586,442 38,579, % 86.3% Total Loan Allowances 129, , % 0.3% Capital (Fixed) Assets 484, , % 1.0% Intangible & Other Assets 400, , % 0.9% Total Assets 49,303,259 44,699, % 100.0% LIABILITIES Demand Deposits 16,200,367 14,190, % 31.7% Term Deposits 12,689,655 12,202, % 27.3% Registered Deposits 10,162,287 9,669, % 21.6% Other Deposits 231, , % 0.6% Total Deposits 39,283,889 36,322, % 81.3% Borrowings 876,693 1,205, % 2.7% Securitization 4,723,321 3,377, % 7.6% Other Liabilities 954, , % 1.7% Total Liabilities 45,838,705 41,686, % 93.3% MEMBERS' EQUITY & CAPITAL Membership Shares 64,971 72, % 0.2% Retained Earnings 2,146,970 2,002, % 4.5% Other Tier 1 & 2 Capital 1,265, , % 2.1% Accumulated Other Comprehensive Income (13,189) 4, % 0.0% Total Members' Equity & Capital 3,464,554 3,012, % 6.7% Total Liabilities, & Members' Equity & Capital Totals may not agree due to rounding 49,303,259 44,699, % 100.0% 16 SECTOR OUTLOOK, August

8 Sector Financial Statements 2016 Income Statement ONTARIO SECTOR Canadian Chartered Banks ** Percentage of Average Assets * Q 2016 Interest and Investment Income Loan Interest Income 3.19% 3.36% 2.04% Investment Income 0.18% 0.24% 0.35% Interest Expense 3.37% 3.59% 2.39% Interest Expense on Deposits 1.09% 1.23% 0.53% Interest Rebates & Dividends on Share Capital Dividends on Investment Capital & Other Capital 0.10% 0.09% Other Interest Expense 0.22% 0.20% Total Rebates, Dividends & Other Interest Expense 0.32% 0.29% 0.21% 1.41% 1.51% 0.74% Net Interest & Investment Income 1.97% 2.08% 1.65% Loan Costs 0.04% 0.07% 0.10% Net Interest & Investment Income after Loan Costs 1.93% 2.01% 1.55% Other (non-interest) Income 0.61% 0.55% 1.25% Net Interest, Investment & Other Income 2.53% 2.56% 2.80% Non-interest Expenses Salaries and Benefits 1.17% 1.18% 0.97% Occupancy 0.21% 0.21% 0.14% Computer, office & other equipment 0.20% 0.21% 0.15% Advertising & Communications 0.14% 0.15% 0.08% Member Security 0.08% 0.09% Administration 0.20% 0.20% Other 0.13% 0.14% 0.47% 2.13% 2.16% 1.81% Net Income/(Loss) Before Taxes and Nonrecurring 0.41% 0.40% 0.99% & Extraordinary items Non-recurring & Extraordinary gains/(losses) Taxes 0.08% 0.08% 0.20% Minority Interests Net Income/(Loss) 0.33% 0.32% 0.79% Average Assets ($000) 47,936,664 43,445,601 4,708,458,603 * Year to date annualized ** Source: Canadian Bankers Association, Detailed Financial Statistics. Totals may not agree due to rounding. 16 SECTOR OUTLOOK, August

9 Selected Financial Trends 12.00% Selected Growth Trends 4.00% Selected Performance Trends 0.80% % 3.75% 3.50% 3.25% 0.70% 0.60% 0.50% 6.00% 3.00% 0.40% 4.00% 2.00% 2.75% 2.50% 2.25% 0.30% 0.20% 0.10% Assets Loans Deposits 2.00% Financial Margin (L) Gross Margin (L) Operating Expenses (L) ROA (R) 20.0% 15.0% Loan Growth % 8.00% Loan Yields 10.0% 7.00% 5.0% 0.0% 6.00% 5.00% 4.00% -5.0% 3.00% Personal Mortgages Commercial Total Personal Mortgages Commerical Total 3.00% Loan Delinquencies - Greater than 30 Days $6,000 Liquidity, Total Borrowings and Securitization 16.00% 2.50% $5, % 2.00% $4, % 1.50% 1.00% 0.50% Personal Mortgages Commercial Total $3,000 $2,000 $1,000 $ Total Borrowings in $millions (L) Liquidity Ratio (R) Securitizations in $millions (L) 13.00% 12.00% 11.00% % 0.25% 0.20% 0.15% 0.10% 0.05% Loan Cost and Return on Assets Loan Costs (L) ROA (R) 0.70% 0.60% 0.50% 0.40% 0.30% 0.20% 0.10% Deposit Growth 18.0% 16.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% -2.0% Demand Deposits - Yearly Growth Term Deposits - Yearly Growth Registered Deposits - Yearly Growth Total Deposits - Yearly Growth Average Total Deposit Growth Rate NOTE: L refers to the Left Axis and R refers to the Right Axis 16 SECTOR OUTLOOK, August