# An investment strategy for credit unions?



## Brendan Burgess

I have spoken to a few managers and committee members of credit unions and I am shocked at their poor understanding of investment issues. At my local credit union, there were reports at the AGM from loads of committees, but no investment committee. The Training Committee listed out a long list of courses attended, but there didn't appear to be any mention of investment training courses. 

Some CUs have had huge losses on investment issues - much higher than the losses due to bad debts. 

My Credit Union had two visits from people selling ISTC bonds. Fortunately, they were uncomfortable with them, and thus avoided losses. However, they have got caught by the other bonds sold by Davys.

Most Credit Unions seem to take their advice from Davys, who are getting commission on what they are selling to the credit unions. 

Apparently there is no investment specialist in the ILCU. I am told that this is because they get a cut of Davy's commission. 

Most Credit Unions I have spoken to sing the praises of Tracker Bonds. It may be that they are suitable for Credit Unions, but I have my doubts. 

There are about 330 credit unions in the Republic. Their needs are virtually identical. There should be no need for Davys or ISTC or anyone else to sell their products. There should be an expert or a committee in the League assessing these products and issuing reports on new products as they emerge.  The individual Credit Unions could then buy the products on an execution only basis after that. 

Brendan


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## Centaur

I disagree.  The biggest problem facing individual credit unions is governance and attracting competent volunteers.

The vast majority of Credit Unions behave in a most responsible way towards investment.  Only a very small number have been dazzled by 'get rich quick' investment wrappers.  I think credit unions investment management would compare favourably in terms financial rectitude and performance with, say, some pension manager (who are supposedly highly trained full-time professionals).

You say there are 330 cu's in the republic.  Many of these are tiny.  This is probably far too many to be regulated properly but credit unions are highly political and won't give up their independence too lightly.

Centaur


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## rmelly

Unfortunately my credit union didn't feel uncomfortable and ended up writing off up to EUR 10 million on ISTC, and as a result paid 2% to share account holders this year. Needless to say I have cancelled my standing order and withdrawn most of my account balance since.

Had to laugh at the Annual Report - it tries to make out that they had a great year, there is barely a mention of the writedown and the cover has a graph with a few 'ups and downs', but ending well up to the top right...and I believe they even managed a loan interest rebate.

The credit union in question is not part of the league...


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## Brendan Burgess

Hi R

That is very interesting. Do you have any problems mentioning the name of the credit union? 

Brendan


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## rmelly

Sure Brendan, it's the ESCCU - [broken link removed] - do a google search for ESCCU and ISTC for more info.

And before anyone asks, I'm not an Eircom employee...


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## ontour

> There are about 330 credit unions in the Republic. Their needs are virtually identical.


 
Credit unions differ hugely in the skills that they can employ directly and the scale of the funds that they need to invest outside of their lending activity. This creates certain challenges as the needs of the large profession based ( e.g. teachers) credit unions are greatly different to local credit unions with a small member base and limited funds to invest.

Having said this, I entirely agree with your assertion regarding the need for ILCU to have expert investment skills.

Fundamentally, I think that there will need to be consolidation to give credit unions an economy of scale and a critical mass to be properly managed.  However I also think that credit unions are more successful / useful in times of less economic prosperity...roll on the good time for credit unions in 2008/9/...


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## rmelly

ontour said:


> However I also think that credit unions are more successful / useful in times of less economic prosperity...roll on the good time for credit unions in 2008/9/...


 
Not sure about that - some have a poor reputation for rates of Bad Debts, which is unlikely to get better in times of less prosperity. There were a few stories in the last couple of years about some CU's that were considered to be poorly run and had high rates of defaults & bad debts - try googling.

The thing that makes then attractive - being able to call in and get a loan instantly works both ways - they clearly aren't in a position to do sufficient due diligence. The fact they don't do credit checks, or even register the loans with ICB should also be factored in.

I can recall reading numerous AAM posts (and also colleagues/friends etc) of people who have undeclared CU loans (not on credit report) when making mortgage applications - some even using it to pay a deposit.


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## RainyDay

The general principle of 'if you don't understand it, don't buy it' should apply to purchasing of complex investments such as ISTC. It is very hard to imagine that any/many CU board members or executives would have sufficient knowledge about such investments to get involved.

Other issue split off onto this thread.


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## Brendan Burgess

The problem facing the Credit Unions is that they are awash with cash and they are trying to squeeze an extra return on it. In the hunt for this extra return, it's easy to overlook the downside of products such as tracker bonds or the ISTC bonds. 

They do not have access to any independent investment expertise on their own committee. They are referred to Davy's or other brokers. The Credit Unions rely on Davys as advisors whereas they are really commission earning salespeople. 

Which is the key point of this thread - The Credit Union movement needs independent advice on investment issues. 

Brendan


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## Basildog

RainyDay said:


> The general principle of 'if you don't understand it, don't buy it' should apply to purchasing of complex investments such as ISTC. It is very hard to imagine that any/many CU board members or executives would have sufficient knowledge about such investments to get involved.
> 
> Other issue split off onto this thread.


 
This is very insulting to many of the three hundred odd professional managers currently employed in the Credit Union Movement, not to mention many volunteers with professional backgrounds. 
A significant number of managers have come from various Banking backgrounds, and many are professionally qualified. Agreed, the majority are not 'fund managers' in the traditional sense, but many have successfully managed multi-million euro Credit Union Investment portfolios. One does not need to be a rocket scientist to understand the vast majority of the Investment Products currently on offer to Credit Unions by the Banks. 
When Credit Unions are left to their own devices in terms of their Investment strategies, they tend to do quite well. It is when the so called 'professional' brokers get involved, such as Davy, Bloxham, Goodbody, etc, that the problems start. There has to be better transparancy on the fees charged by these bodies in managaing Credit Union portfolios and on the advice some have given Credit Unions.


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## ClubMan

Basildog said:


> When Credit Unions are left to their own devices in terms of their Investment strategies, they tend to do quite well. It is when the so called 'professional' brokers get involved, such as Davy, Bloxham, Goodbody, etc, that the problems start.


So why do many of them deal with such brokers? And are you claiming that _CU _staff can beat the brokers (and perhaps the market) on a consistent basis or something?


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## Basildog

Since the Credit Union Financial Regulator has arrived, managing an Investment Portfolio in Credit Unions has become very boring. In a typical portfolio of circa €50 million, up to 70% would be invested in straight fixed or variable Bank Deposits, mainly short-term ( 3 to 6  months) at 4.5% to 5%. No commission is charged when dealing directly with a Bank. Why should a Credit Union need to use a Broker, such as Davy, to place the same funds, and be charged a commission?


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## Sunny

Have to say I have always felt uncomfortable with the majority of credit unions in this country due to concerns about corporate governance,large loan losses and lack of professional investing expertise. I used to work for a broker that had some dealings with credit unions and we used to be amazed at not so much what they bought, but their understanding of products. I remember having to sit in a 2 hour meeting explaining to a credit union manager why interest rate movements impact on the value of their fixed bonds. They didn't know what an interest rate swap was.


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## Brendan Burgess

Hi Basildog

That is a very interesting perspective. There are undoubtedly some managers or committees who know what they are doing. But why do so many rely on Davys? Why does the ILCU or CUDA not recruit an expert or put together an expert committee to assess new products. Then there would be no need for salespeople to call on Credit Unions.

Brendan


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## mozart

This is a very interesting discussion but ignores two important facts. 
Davy are the single biggest "investment advisor" to credit unions. They cannot really be considered independent as they charge commission for the investment products that they sell. Because the are the chosen advisor of the ILCU they have an unfair advantage over other advisors in that they have almost unlimited access to most credit unions. Some credit unions use the likes of Dolmen for investment advice. In this instance they pay a flat annual fee for advice and Dolmen do get any commission for funds invested. Until thid dominant position is challenged the market for credit unions will remain unbalanced.
The second point is that most credit union directors have little or no skills relevant to their positions. Governance is a huge issue witrh many directors of credit unions on "power trips". Most credit union boards are dominated by a relatively small number of directors. These boards are more interested in winning small unimportant board room battles rather than having an overview of their credit union business. They are interested in knowing how each cent of "petty cash" is spent without ever questioning the major decisions. Until governance is tackled and a universal standard introduced credit unions will cvontinue to make the headlines for all the wrong reasons.


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## Tadhgin

_ Important comments on fitness and probity moved to a separate thread - Brendan_

As regards Basildog's comments, there are indeed very many competent and able professionals and volunteers serving on credit union investment committees, operating within the sensible guidelines laid down by the Registrar of Credit Unions in 2006, and making safe and solid returns to their members. These are not heard about, as they do not make the news.

More credit unions are moving away from the old formula of dependancy upon Davys, who are not independent as they oftimes benefit financially from their own advice. The Irish League of Credit Unions is not an independent voice either, as Davys are their advisors.

As I said, many credit unions utilise common sense, a knowledge of the market they are in, and prudence, and confine their investment activities to the Regulator's guidelines, and quietly do well on the investment side. Most steered clear of instruments such as Perpetual Bonds, which were heavily promoted by one particular so-called investment advisor.

Good Governance is about, amongst other things, accepting responsibility. Where Credit Unions have invested substantial amounts in instruments such as Perpetual Bonds, it is just not good enough for the Board to say "Oops, sorry guys but we must slash the dividend" and carry on regardless. Such Investment Committees should resign.

Finally, the Registrar of Credit Unions needs to look carefully at his 2006 Investment Guideline in relation to credit union investment in Collective Investment Schemes. The Registrar has allowed the purveyors and promoters of such scheme to essentially self-certify their compliance with his guidelines. This is not wise, as the promoters of these schemes may be tempted to take risk that is inappropriate to credit unions, in pursuit of returns in an ever more volatile market. It is far from clear to credit unions as to what the underlying instruments in these schemes are.


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## Slim

In a follow up post Brendan said;


> Which is the key point of this thread - The Credit Union movement needs independent advice on investment issues.


 
To me, this is an unassailable statement. What follows the OP above is a combination of truth and wishful thinking. In my experience, the following is the truth.

Up until the late 1990s, Davys were the default choice of many credit unions because they were endorsed by the ILCU. The service was poor and the product range was limited. When a number of CUs struck out from this and invested with other agents in products such as With Profit Bonds and in direct equities, there was a great deal of disquiet at ILCU Board level. To some extent Davys got their act together and offered the type of prooducts many CUs wished to purchase. This went hand in hand with a kind of overview service which is still offered by Davys today. Many large credit unions, such as Eircom, are not affiliated to the ILCU.

Most credit union boards do not have anything like the investment expertise to understand products, read policy documents or understand the finer points of markets and equities, interest rate movements/swaps etc. The ILCU recognises this and has tried to get going a kind of Central Treasury Management System, which is slow to develop.

The expertise of credit union managers is widely varied, though some are very experienced.

The Financial Regulator's guideline is an attempt to draw credit union investment practice into line with a policy which is to limit risk and limit the type of investment CUs may invest in. The Regulator does not have any faith in the ability of CUs to manage their own investment practice beyond these limits.

Davy's role is coming increasingly into question. They took something of a battering at Convention in Belfast in 2007 over the perpetual bonds affair. It is fair to say this has damaged their reputation within the movement and their recent management buyout is further cause for concern amongst CUs.

A number of large CUs are exposed to equity market volatility, although it is difficult to quantify and it would not be publicly reported on. Overall, the spilt between investment and loans is about 50/50. There are risks to both which have to be managed. CUs are better at managing the lonas risk than investment risk and this is an area the Regulator has focussed on, although he has sent out guidelines also on lending policy.

Governance in credit unions is an inevitable quagmire, as pointed out by posters above. Some individual credit union Board decisions will be seen as unwise in hindsight, whether to do with investment or loans and will surface in the media from time to time.

ONe of the biggest threats to the credit union movement is its failure to adapt and modernise. Many Boards are dominated by older/original board members and tend towards conservatism, or an antiquated view of lending or investment, or an unshakeable faith in the ILCU, which has failed spectacularly in many respects over the years.

Have to go...

Slim


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## kaplan

Slim’s astute assessment hits the nail on the head. The news that the Ombudsman has found in favour of the Enfield complaint, requiring Davy to buy back perpetual bonds at face value is indicative of the absolute mess credit union investments have become. 
http://www.independent.ie/business/...ter-financial-ombudsmans-finding-1272558.html

Both the regulator and the ILCU have advised credit unions to opt for retail status under MiFiD which is of course an implicit collective agreement that credit unions are not competent to qualify as professional investors. The regulator in its initial guidance on investments stressed the retail investor issue in early 2005. Its most recent guidance note (which is not mandatory) is full of holes which Tadhgin has illuminated in the self-certification of open ended collective investment schemes. 

It is quite something, as the ILCU has publically stated that perpetual bonds were appropriate investments for credit unions when even a moderately informed person could tell they are most definitely not appropriate either for a credit union or a credit union stabilisation/savings protection fund. The ILCU admitted to its SPS exposure to perpetual bonds but I doubt if it will adopt the same position as Enfield Credit Union. It is after all earning quite a sizeable income stream from its investment relationship with Davy. 

The whole thing is quite messy. A combination of Credit unions for not ensuring they have the competence to assess investment risk, the ILCU for exposure to agency and moral hazard risk and the regulator for not taking a more active integrated response to an issue it has been aware of for some time. The point on self-certification on open ended collective investment schemes is very well made indeed. It’s a case of an internal silo regulatory gap that could yet result in another fine mess. 

Maybe Davy will be successful in its High Court appeal and bounce the ball back where it undoubtedly belongs with credit union boards, their trade bodies ILCU & CUDA and their industry regulator. After all credit union boards have a fiduciary accountability and responsibility to ensure the safety and soundness of a credit union and the regulator’s remit is to ensure boards do just that. 

Given the public concern over credit union investments it’s clear that active regulatory intervention is required to mitigate the investment risks millions of people’s savings are being exposed to. 

The regulator and industry trade body regard credit unions as “retail investors”. However there are a special class of retail investor as the investment instruments they are permitted to invest in are restricted. For example an ordinary person can hold 100% of his investments in a class of instrument …credit unions may not.  

But credit union boards and management are expected to have the professional competence to assess and make appropriate investments within the terms of the restrictions laid down by the regulator. This requires the boards and management to possess a professional and not a retail level competence. The fact is the overwhelming majority do not. 

It is highly unlikely that a standard QFA has the competence or skill necessary to undertake a proper “know your client assessment” of a credit union as this would require them to be familiar with credit union interest rate and liquidity risks including its ALM requirements. Most product providers would balk at this requirement unless they assess suitability using specially qualified personnel. Furthermore classifying credit unions as restricted retail investors runs counter the accountability and responsibility credit union boards have for safety and soundness. The convenience of “retail” status could dilute the fiduciary responsibility of the board of a financial service firm and provide a get out of jail card.   

One way of dealing with this issue is for the onus to ensure whether a product is appropriate for credit union use is for the regulator to require it to be declared as fit for use within the context of its guidelines. This could take the form of an approved form of declaration by the product distributor (provider, broker or advisor) that the product qualifies within the regulatory investment criteria. Or a blanket declaration that it undertakes to ensure that its products are fit for use by credit unions and complies with the investment guideline criteria. Breaches of such declarations would of course expose the distributor to administrative sanction. 

Another solution is for credit unions to employ the expertise required either on their own payroll or through outsource contracts of engagement. In this case the regulator should issue guidelines on contracts of engagement of regulated investment expertise. This is standard credit union regulatory practice elsewhere.  Here the credit union would rely on this expertise to assess the appropriateness of otherwise of the product(s). 

The suggestion that a trade body should provide this service is unlikely as it would require the entity to be itself regulated and open up the prospect of continuing self-regulation and supervision where all the evidence points to increased agency and moral hazard risks.    

Of course it is expected that a credit union has the competence to construct an appropriate portfolio out of “fit for use” products having due regard to a safe and sound asset and liability maturity profile and the ongoing governance and management of interest rate and liquidity risk. 



Kaplan 

Challenging site here [broken link removed]


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## Tadhgin

Credit Union Boards, and their managers, must take responsibility for the moneys placed in their care by their members. That's the bottom line. Sure, they can blame the "advisor" that sold them the unsuitable product. They can also blame the representative association that thinks it's some kind of super credit union! They can blame the Registrar for not stopping them. They can even blame Bertie!!!! Bottom Line is they took the decision; they invested (and invest) too much faith in "advisors" that would profit from the outcome of their investment decisions; they invested, and invest faith in the representative association that appointed these advisors, and who continues to stand by them.

Credit Union Boards must accept that they are obligated to seek to recover the moneys lost through investment in inappropriate products. The reluctance of many Boards to accept this responsibility, substituting a misplaced loyalty to the broker and their representative association,  for their obligations towards their members, is lamentable. One cannot lay this at the door of the Board of Enfield Credit Union, thankfully.

We can introduce all the "fit-for-use" declarations we like (a very good idea, incidentally) and definitions as to independence of advisors (another good idea), but until Boards of Directors, and Managers, ultimately accept that they are, in the end, fully responsible for their actions and inactions, credit unions will continue in a directionless, ever-greying wilderness of irresponsibility. 

Well done, Enfield.


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## kaplan

If credit union officers actions unwittingly expose a credit union to investment losses; can a credit union claim under its fidelity bond coverage ?


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## Tadhgin

RE Kaplan's query regarding the insurance coverage of exposure of a credit union to investment losses resulting from credit unions officers' actions - Sure, it could claim, but it's prospects of success are somewhere between remote and non-existant!!. The Insurer expects the client to avoid unnecessary and inappropriate risks, and that would be seen to include avoidance of activity that the Officers are not normally expert in. If the fidelity bond were to cover such losses, it would effectively amount to a license for essentially risk-free speculation by credit union investment officers.


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## kaplan

Tadhgin

From your response, it seems the issue may be a bit of a grey area. I wonder if credit unions have sought independent expert opinion or advice on the extent of their coverage. Could it be that a policy covers the risks of credit union officers decisions when made in good faith ? 

Kaplan


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## Tadhgin

Kaplan,

An investment decision consists of a decision made by the Officers (the Consumer) on the basis of the Officers' investment expertise and on information provided by the Investment Vendor or Agent (the Provider). 

Were it possible to insure against the risk of Investment Loss, there would have to be at very least, a quantification of 
(a) the exact nature of the existing portfolio,
(b) the stated Board Investment policy,
(c) the expertise available to the Board and
(d) the likely investment products to be adopted.

This information is not sought. 

If such a claim were to be successful, the whole risk/reward relationship would be ended, and Boards would be best advised to put their least-informed Officers on the Investment Committee and speculate extravagantly!!!!! And the product vendors would probably pay the premiums!!!!!!


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## kaplan

Tadghin

*“Credit Unions Have Rights as “Private Clients” under the Investment Intermediaries Act 1995 (IIA) in their relationship with their Investment Advisors *_Unless they choose otherwise, credit unions are regarded as “private clients” for the purposes of Section 37 of the Investment Intermediaries Act 1995. (IIA). This entitles credit unions to important rights in their relationships with Investment Intermediaries_” (RCU Guidance Note on Investments Jan 2005)

You are correct that is if credit unions are by default retail investors (and its previous incarnation of private clients). Which is something that may shortly be tested in the courts. 

But this is a different issue to fidelity bond coverage. My inquiry is not that fidelity bond coverage should extent to investment decisions but rather does the existing contract cover decisions by officers made in good faith where these have resulted in losses to the credit union.  

Kaplan


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## Quarehawk

The Irish League of Credit Unions has recently published a new advertising leaflet entitled "My Place for Savings". In the leaflet, it poses the question "Are My Savings Secure?". It then goes on to answer as follows:- "Credit Unions affiliated to the Irish League of Credit Unions are members of the Savings Protection Scheme. Also, members' savings are insured through Life Savings insurance (subject to certain terms and conditions). For more details, pick up a copy of the 'Loan Protection and Life Savings Insurance leaflet in your credit union."
What a load of cobblers - they ask one question, and answer a different one!!!!
Typical ILCU fudge and obfuscation, but at least they didn't say they are secure or are guaranteed.


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## kaplan

Yes the new revamped ILCU public wesbite is a model of consumer transparency ! Funny thing is its members and others continue to masquerade the SPS as a benefit and with one even claiming savings are guaranteed. Interesting post here : [broken link removed]

Intriquing point on the Regulator's website and its role in supervising credit union advertising. The Regulator has deleted reference to the ILCU SPS on its own website (it used to state the SPS " provided an important level of protection).     

Kaplan
[broken link removed]


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## Quarehawk

What is the Financial Regulator doing by ignoring the false and misleading claims that are still appearing on credit union websites? Does the Financial Regulator not have a responsibility to point out to Credit Unions when and where such false advertising exists? I would assume that Credit Unions would move to amend their websites if the matter were to be pointed out by the Regulator. This surely is an important matter, that would not cost millions to implement!


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## kaplan

Consider this:

*2008*
*One credit** union* invests in an instrument that does not comply with the trustee investment order 1998 (and Investment Guidelines 2006). It loses millions. These actions are it appears in breach of section 43 of the credit union act 1997 which says “ If a credit union knowingly contravenes any of the provisions of this section, it shall be guilty of an offence.” What’s more as credit unions are only permitted to act by specific laws then any investment made in breach of these laws is probably irrecoverable. You cannot sue unless you have clean hands. 

*Another credit* union makes a loan which it should not have made which it publically declares it made and states it shouldn’t have. The loan is over 2.5 times larger than legally permissible. Once again the act says : “If a credit union knowingly contravenes any of the provisions of this section, it shall be guilty of an offence.”

*Another credit union:* Has made a series of loans in excess of legally permitted limits. It’s exposure to loans of over 10 years is multiples of the permitted limit of 10% - it is close to 30% (which is on outside of the new lending guidelines that it cannot qualify for). The act says “If a credit union knowingly contravenes any of the provisions of this section, it shall be guilty of an offence”

These are three examples of some of the many cases where credit unions may be committing offences under the act. How many credit unions have been subjected to legal proceedings for offences committed ?

Kaplan


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