Why credit unions should be cautiously optimistic about the recent Fed rate cut

Since the Federal Reserve Bank began raising the federal funds rate in February 2022, financial institutions have been struggling with historically low loan volumes. Ever since, credit union professionals have been waiting for the day when historically tight monetary policy would ease. A rate cut would mean lowering the cost of funds for financial institutions, making it easier for banks and credit unions to lend out money.

The Federal Open Market Committee’s (FOMC) recent decision to lower the fed funds rate by 50 basis points (bps) is a significant move that will have various implications for consumer rates. While such rate changes are often not fully understood by the general public, they can have profound effects on the financial landscape, particularly in the realm of fixed-rate loan refinances. This article will explore the expected short-term and long-term impacts of this rate drop, focusing on consumer behavior, refinance volumes and margin positions for financial institutions.

Understanding rate drops and consumer behavior

Rate drops, such as the recent 50bps reduction, are often met with confusion by the general public. Many consumers do not fully grasp how these changes affect their financial products, particularly fixed-rate loans, and how long it may take for the rate drop to impact consumer lending rates. However, one immediate consequence we can anticipate is a surge in phone and in-person inquiries about loan refinances. As consumers become aware of the potential for lower interest rates, they are likely to seek opportunities to refinance their existing loans to take advantage of more favorable terms.

This initial spike in inquiries is a natural response to the perceived opportunity for savings. Credit unions should be prepared for an influx of member inquiries at the contact center and in branch as consumers look to lock in lower rates. Educating consumers about the benefits and processes of refinancing will be crucial in managing this surge effectively. Proactive approaches like marketing, social media and in-branch flyers may help mediate some of the increase.

Lag in refinance volume

While inquiries about refinancing are expected to rise quickly, the actual volume of refinances will likely lag by one to two quarters. This delay can be attributed to several factors, including the time it takes for consumers to register the savings opportunity and some consumers may adopt a wait-and-see approach, hoping for even lower rates in the near future.

Proactive credit unions will recognize this lag and take steps to capture refinance volumes early. Deploying sales forces to reach out through cold calling, in branch and through community outreach, to potential refinance candidates can help in securing these opportunities before competitors do. By actively engaging with members and offering streamlined refinancing processes, institutions can position themselves to benefit from the uptick in refinance volumes.

Tight margin positions and the role of automation

Despite the anticipated increase in refinance activity, margin positions on consumer loans are expected to remain tight. Increased competition, emerging technologies and adjustment to provisions for loan losses all factor in. The initial period following a rate drop often sees compressed margins as credit unions adjust to the new rate environment. However, there are strategies that can help mitigate these pressures.

One such strategy is the use of automation in the refinancing process, particularly for A paper borrowers. By leveraging automated underwriting and processing systems, credit unions can significantly reduce the cost of origination. Automation not only speeds up the process but also minimizes the need for extensive manual intervention, thereby reducing the need to hire and train team members and improving member experience.

For A paper borrowers, who typically have strong credit profiles, the use of automation can streamline the refinancing process, making it more efficient and cost-effective. This approach allows institutions to offer competitive rates while maintaining profitability. As the rate environment stabilizes, these efficiencies will become even more critical in sustaining healthy margins and delighting low risk borrowers.

Conclusion

The Federal Open Market Committee’s decision to lower the federal interbank rate by 50bps is poised to have a notable impact on consumer rates, particularly in the context of fixed-rate loan refinances. While the general public may not fully understand the implications of rate drops, the expected increase in refinance inquiries will be an immediate consequence. Financial institutions should prepare for this surge by educating consumers and streamlining their refinancing processes.

Although refinance application volumes will likely lag by one to two quarters, proactive credit unions can capture these opportunities through targeted outreach and efficient processing. Tight margins will persist until mid-2025, but the use of automation in refinancing can help protect margins and drive down costs.

By understanding and anticipating these dynamics, credit unions can navigate the changing rate environment effectively, ultimately benefiting both members and their own bottom lines.

Jamie Lovell is Chief Operating Officer at Shastic.