Corporate Credit Unions Face Mounting Paper Losses From Mortgage Assets

The Wall Street Journal reports this morning that five of the largest credit unions are reporting paper losses on mortgage holdings large enough to wipe out all of their equity.  The credit unions respond that the losses are merely temporary and that they fully expect for the market to rebound.  This belief is commonly referred to as "we'll-make-it-back-as-soon-as-we-pull-our-heads-out-of-the-sand" syndrome. In fact, two corporate credit unions, Western Corporate and U.S. Central have have gone so far as to reclassify some of the assets on their balance sheets from "available for sale" to "held to maturity."  Assets classified as "held to maturity" can be carried on the books without reflecting temporary swings in asset prices.

Furthermore, the federal credit union regulator, the NCUA, is planning an accounting rule change to allow corporate credit unions to more clearly highlight the funds they hold from regular credit unions on their balance sheets.  Certain funds from regular credit unions, which are currently excluded from the balance sheet, are apparently a key source of capital.  This begs the question of why they were never included before.  But, when in doubt, just reclassify assets and have your regulator change a few accounting rules to tidy up those balance sheets.  These solutions work perfectly fine in a static world where people aren't panicking about losing their money in the next financial firm failure.  However, when the name of your credit union is reported in a front page story in the Wall Street Journal right next to the words "negative equity", a few of your depositors may decide they don't want to wait around for those paper losses to rebound.  This is precisely how temporary asset price declines can become permanent.  Although credit union deposits are insured up to $100,000, providing some comfort to depositors, this fact didn't help IndyMac one bit.  The last time a corporate credit union failed was in 1995 and the regular credit unions who had their funds with the corporate credit unions eventually recovered their money.  The NCUA's director of the office of corporate credit unions claims that the possibility of a corporate credit union failure is "so remote" that "I can't even imagine that happening."  If one of our regulators thinks there's nothing to worry about, I'm certain he's right.  After all, regulators saw this mortgage mess from a mile away.