Published in: CUNA Councils
For product pricing, it is essential that credit unions adhere to a disciplined process. Many institutions benchmark performance and product pricing to an economic transfer price, also known as a funds transfer pricing (FTP) framework. Returns based on economic pricing can be thought of as an economic return on equity (ROE). Economic ROE has the important distinction of being market-based, eliminating arbitrage by business units and borrowers.
To avoid having commercial spreads widening and tightening with the market, institutions frequently benchmark pricing to market-based sources. For example, in a rising rate environment, if the offer rate on an auto loan is not adjusted to account for a higher yield curve, the effective credit spread charged to the borrower is diminished.
Figure 1 demonstrates this situation by showing two rates charged to two borrowers: one with a negative credit spread, and the other with a positive credit spread – both of which we have witnessed. While positive spreads are often more beneficial for the credit union, negative spreads aren’t necessarily bad. Perhaps more important than the numerical value of the spread is ensuring that the value is intentional – does the credit union recognize the corresponding costs and benefits?