Changes in interest rates impact a credit union’s net worth, earnings, and liquidity position by altering its NII and the level of other interest-sensitive income and expenses. Nearly all credit unions maintain a maturity mismatch between their assets and liabilities as their business requires them to intermediate funds between members who are savers and those who are borrowers. The fact that the risk associated with their source of funds (liabilities) is different than the risk associated with their use of funds (assets) makes IRR relevant for any significant rate move, in either direction.
If rates rise significantly, credit unions experience a rising cost of funds and an extension in the average life of their assets. If rates fall significantly, they experience a falling cost of funds but also experience maturity calls and principal prepayments on investments and loans which creates unwelcome reinvestment risk. This incidental mismatch is both a source of income and a source of risk.
Changes in interest rates also impact the underlying economic value of the credit union’s assets and liabilities. These changes occur because the present value of future cash flows, and in many cases the cash flows themselves, change when interest rates change, which alters future earnings and the credit union’s underlying economic value.
Last updated October 11, 2016
