Summary Results

/ Credit Unions and Caisses PopulairesSECTOR OUTLOOK 1Q16
June 2016
In This Issue

Summary Results….Page 1
Sector Financial

Highlights………….Page 5

Sector Financial Statements………..Page 6
Selected Performance

Trends …… ……...Page 8
The information presented in this report has been prepared using a variety of sources, including unaudited reports submitted to DICO by credit unions and caisses populaires. While DICO believes that the information contained in this report would be useful to readers, and considers the financial statements to be reliable, their accuracy and completeness cannot be guaranteed.
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Throughout this document, unless specifically indicated otherwise, credit union refers to both credit unions and caisses populaires.
ELECTRONIC PUBLICATION:
The Sector Outlook is available in PDF format (readable using Adobe Acrobat Reader) and can be downloaded from the Publications section on DICO’s website at
NOTE:
Income Statement results are based on aggregate year to date annualized information for each credit union. Comparative results may not always agree with previously reported information for the same period as a result of additional information received after the reporting date.
Results are based on the latest available information as at April26, 2016. /

Summary Results

Selected Aggregate Sector Performance Indicators / As at March31
2016 / 2015
Total Sector Assets (millions) / $47,620 / $43,479
Credit Unions(% of Total Sector Assets) / 86.1 / 85.9
Caisses Populaires(% of Total Sector Assets) / 13.9 / 14.1
Total Number of Credit Unions and Caisses Populaires / 105 / 115
Number of Credit Unions / 80 / 89
Number of Caisses Populaires / 25 / 26
Avg. Asset Size of Credit Unions and Caisses Populaires ($millions) / $453 / $378
Number of Members (000’s) / 1,599 / 1,552
Regulatory Capital (Aggregate Leverage Ratio) / 7.22% / 6.92%
Credit Unions (Leverage) / 6.98% / 6.62%
Caisses Populaires (Leverage) / 8.73% / 8.73%
Regulatory Risk Weighted Capital Ratio (Class 2 only) / 14.07% / 13.37%
Credit Unions / 13.62% / 12.82%
Caisses Populaires / 16.79% / 16.65%
Number not meeting minimum regulatory capital level / 0 / 0
Liquidity / 11.18% / 11.09%
Credit Unions / 11.58% / 11.43%
Caisses Populaires / 8.62% / 8.96%
Asset Growth / 9.5% / 10.5%
Total Loan Delinquency (greater than 30 days) / 0.95% / 0.97%
Credit Unions / 0.93% / 0.95%
Caisses Populaires / 1.04% / 1.12%
Commercial Loan Delinquency (greater than 30 days) / 1.61% / 1.49%
Credit Unions / 1.63% / 1.54%
Caisses Populaires / 1.50% / 1.20%
Year to Date (annualized)
Net Interest Income (Financial Margin) / 1.91% / 2.02%
Other Income / 0.57% / 0.54%
ROAA / 0.21% / 0.24%
Return on Regulatory Capital / 2.86% / 3.42%
Efficiency Ratio (before dividends & interest rebates) / 82.3% / 81.8%
Credit Unions / 85.2% / 85.0%
Caisses Populaires / 67.1% / 66.5%
Unless stated otherwise, all figures reported are as at 1Q16.
Economic Overview
In Canada, interest rates are expected to remain low for the foreseeable future with the economic recovery progressing at a very slow pace. The new federal government’s first budget contained additional spending promises intended to provide a boost to the flagging economy across the country but at the cost of very large deficits for the next few years. While increased government spending may help to spur the Canadian economy, the low interest rate environment continues to put pressure on margins.
Although the Bank of Canada has advisedCanadians to take this opportunity to reduce their debt loads, consumers continue to spend on credit with the household debt level hitting a new high at the end of March 2016. Along with higher consumer debt, continued strong demand for residential mortgages is resulting in increased liquidity demand for some credit unions.
Credit unions should ensure their capital and liquidity management stress testing models appropriately reflect any potential decrease in interest rates.
Capital
Aggregate regulatory sector capital increased to $3.40 billion from $2.98 billion year over year and as a percentage of assets to7.22%from 6.92%. The increase in capital was largely due to eight credit unions issuing investment share offerings in the latter part of 2015that raised approximately $300 million (approximately 70% of the increase in capital). All credit unions met minimum regulatory capital requirements. Retained earnings represented61.4% ($2.1 B) of regulatory capital, investment and patronage shares accounted for 36.8% ($1.25B) withmembership shares making up the remaining1.8% ($65 million). Retained earnings grew by 6.2% year over year(4.4% as a ratio to total assets) much lower than the 13.6% increase from 1Q 2014 to 1Q 2015.
Growth
Sector consolidation continued over the last twelve months with the number of credit unions decreasing by ten to 105,increasing the average sizeto approximately $454 million. The numberof credit unions declined by nine to 80resulting in anaverageasset size of $513 million while the number of caisses populaires decreased by one to 25 with an average assetsize of $264 million.
Total assetsgrew by9.5%to $47.6 billion,largely due togrowth in commercial loans (10.9%), residential mortgage loans (10.8%) and agricultural loans (8.3%). The proportion of personal loans has decreased from 11.0% to 6.7% of total loans over the past five years while residential mortgages have increased from 56.3% to 59.7% and commercial loans from 28.2% to 29.2%.

Credit unions should continue to adhere to prudent underwriting practices when pricing loans, including stress testing the impact of interest rate increases on the borrower’s ability to pay. This is particularly important with the economists’ growing concerns over a potential real estate correction combined with thehigh level of consumer debt.
Total deposits grew by7.3%, the highest first quarter year over year growth ratein the last 6 years and higher than the five-year average deposit growth trend of 6.4%.
This compares favourably against the average five-year growth rate for the entire Canadian credit union sectorof 4.3%. Demand deposit growth lead the way with anincrease to 16.0% from 8.6% lastyear while the term deposit decreased by 0.4% year over year (7.4% increase in the previous year). This deposit behaviourcontinues a trend away from longer term deposits due to low investment returns.
The funding gap, the difference between total loans and total deposits, continues to grow and has increased from 4.5% in 1Q15 to 6.5% in 1Q16 due in part to the fact that credit unions are aggressively growing their loan portfolios in order to increase revenue.
Insured deposits were estimated at $26.6 billion or 69.4% of total depositsin contrast to the banking sector with insured deposits of 31% (source: CDIC). The level of insured deposits at credit unions has decreased steadilyat an average of 1% per year over the last decade from 82% in 2005. The proposed change in deposit insurance limits to $250,000 will result in an increase in insured deposits to an estimated 80% of total deposits.
Efficiency Ratio
Credit Unions / Caisse Populaires / Banks
82.3% / 67.1% / 64%
The overall efficiency ratio (before dividends and interest rebates) weakenedmarginally to 82.3% from 81.8% in 1Q15 and remains significantly higher than the large Canadian banks(fiscal 2015). As a group, caisses populaires at 67.1%continue to reportefficiency ratios that are closer to the big banks than credit unions at 85.2%. Caisse populaires realize increased economies of scale from their credit union counterparts through their integrated model, where all back office functions (including credit underwriting and adjudication) and systems are shared.
Profitability: Decreasing Over Time
Return on average assets (ROAA) declined to 21 bps in 1Q16 from 24 bps in 1Q15. The following table provides the income and expensesbreakdown by credit unions and caisses populaires over the last 5 years.

There has been a 60 bps decrease in interest and investment income (15% decrease) over the last five years as a result of the low interest rates driving down as the rates charged on loans continues to decrease. “Other income” has decreased by 7 bps (or 11%) over the past 5 years as credit unions continue to be motivated to seek ways to increase income from non-interest related sources in the current low interest rate environment.
Total expenses have decreased by 51 bps over the past five years (12.0% decrease) led by lower interest expenses, down 38 bps (or 25.8%) and non-interest expenses, down 31 bps (or 12.3%). All categories of non-interest expenses decreased over the last five years led by salaries and benefits that reduced by 15 bps over this time period.
While credit unions have done a good job of lowering their expenses, it was not enough to overcome the 67 bps reduction in gross income resulting in a decrease in net income of 16 bps (or 43%). Credit unions are exploring new avenues to improve economies of scalethroughpooling resources to provide shared services and growing assets.
Credit Risk
Gross loan delinquency greater than 30 days was 0.95% of total loans, down 2 bps from 0.97% in 1Q15. This was due mainly to lower delinquencies in residential mortgages loans (0.59% vs. 0.66%) and largely offset by an increase in commercial loans (1.61% vs. 1.58% in 4Q 2015 and 1.49% in 1Q 2015). The reported total amount of impaired commercial loans increased to $186.2 million from $181.4 millionin 1Q 2016 while the percentage of impaired loans has decreased to 1.55% from 1.67%.
The following chart shows fluctuations in delinquencies greater than 30 days over the past five years for different loan types. There is considerably more volatility in commercial and agricultural loansthan personal and mortgage loans due to external factors. Factors include variation incrop and livestock production (i.e. good year vs. bad year) and downturn in socio-economic conditions affecting certain industry sectors. That being said, total loan costs have remained fairly stable at around 8 to 10 bps over the last 5 years.

Loan Mix and Yields
While total loans grew by 9.5% reflecting growth in almost all other loan categories, personal loansdecreasedby $138 million(4.8%) year over yearto$2.74 billionand continue to represent a declining portion of the total loan portfolio mixat6.7% from 7.7% in 2015.
The following chart illustrates the current loan portfolio mix and yields versus the values from 1Q15 and their impacts on gross interest revenues. The decrease in interest revenuesfrom lower loan yields in the past year is estimated at $41.3 million, due to lower yields in all loan categories, whilethe notional impact of the change in portfolio mix on interest revenues is estimated to be a decrease of $5.8 million.

Competition in the residential mortgage market and low yields in the bond markets have resulted in floating and fixed rates that are near historical lows, leading to continued strong demand for new mortgages. While there have been a number of reports predicting a potential housing bubblecollapse in Canadian real estate, strong demand continues to push house prices up and has strained affordability even further. The average house price as measured by the Aggregate Composite MLS® Housing Price Index rose by 9.1 percent on a year-over-year basis in March 2016, the biggest gain since June 2010.
Liquidity and Borrowings
Year over year borrowings increased30.3%due largely to the securitization of residential mortgages in order to make up the funding gap between the growth in assets and deposits. Securitization programs have increased by 35.7% to $4.26 billionfrom $3.14 billion in 1Q15while all other borrowings increased 12.3% to $1.07 billion from $949million. There are currently 17 credit unions involved in securitization programs.
Liquid asset holdings increasedby $442 million to $4.85 billion improving the liquidity ratio to 11.18%from 11.09% in 1Q15, largely attributable to increases in deposits at the leagues/centrals held for liquidity ($402 million) and deposits at other Canadian financial institutions held for liquidity ($68 million). Liquidity at caisses populaires, (8.62%) remains much lower than atcredit unions (11.58%). This lower level of liquidity is due in large part to the ability of some caisses to access the Caisse Centrale for funding needs should a liquidity event occur. The liquidity level for 1Q16was the highest quarterly value since 2Q13. In comparison, liquidity of Canada’s banks was approximately 11%.
The following chart provides a breakdown of liquidity sources. The largest source of liquidity is “Deposits in a League or Central” (74.3%), followed by “Deposits in deposit taking institutions” (10.5%), “Cash held for liquidity” (4.8%) and “Securities secured by mortgages and guaranteed by CMHC” (4.2%).

Effect of Change in Deposit Insurance Limit to $250,000 on DIRF and Premiums
Preliminary analysis of the proposed change in deposit insurance coverage to $250,000 (for both registered and non-registered accounts) based on information collected to date indicates that insured deposits would increase from approximately $26.4 billion to approximately $30.2 billion. The increased level of insured deposits is expected to result in aggregate deposit insurance premiums increasing by approximately $3.0 million annually. Based on the current estimated level of insured deposits of $30.2 billion, and the current DIRF size of $212 million, the DIRF would be 71 bps of insured deposits (down from the current 78 bps of insured deposits of $100,000). Further analysis is required to determine the long term effects on the growth of the DIRF and the goal of reaching 100 bps of insured deposits in 2020.