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What's In a Credit Score?

Updated: May 5, 2019

A funny thing happened on the way from the financial crisis: the average US credit score has increased by nearly 20 points, from 686 in 2009 to 704 in 2018. And, according to Moody's Analytics, there are around 15 million more consumers with credit scores above 740 today than there were in 2006. Finally, there are about 15 million fewer consumers with scores below 660. This strikes many as good news. Perhaps Americans have used the last decade’s recovery to put their financial houses in order. Maybe not… A recent Bloomberg article suggests that “[c]onsumer credit scores have been artificially inflated over the past decade and are masking the real danger the riskiest borrowers pose to hundreds of billions of dollars of debt.” In fact, new research from Moody’s Analytics and Goldman Sachs asserts that consumer’s credit scores have been artificially inflated over the past several years. These experts suggest that the “watering down” of credit score standards has created a dangerous lending environment, with riskier borrowers being approved for unprecedented amounts of debt every single year. It’s not a stretch to believe that the gradual loosening of credit standards as the economy has expanded during our current 10-year robust recovery has resulted in “grade inflation.” If the grade inflation story is to be believed, it means that borrowers with low credit scores in 2019 pose a much higher relative risk than the historical data would suggest. Today’s low loss rates coupled with fierce competition for high-score borrowers, might tempt lenders to lower credit standards without appreciating that today’s 660 credit-score borrower may be a worse credit than a borrower with the same credit score a decade ago. The risks of credit score grade inflation might be more acute for credit unions. While the biggest banks typically make only minor adjustments to their credit standards, smaller lenders (read CUs) often take more considerable risks to win customers. For our clients, we suggest that they consider what happens when the economy’s growth train slows, or we fall into another recessionary period. At that point, the softer credit standards will come back to bite creditors in a big way. And, there are already signs of weakness. For example, the Federal Reserve recently reported that auto loans at least 90-days late surpassed 7 million at the end of 2018 – the highest number on record. Interestingly, the auto loan delinquency numbers (new and used) remain muted (at 0.66%) in the credit union space. Car loans, personal online loans, and retail credit cards are likely the most at risk when the economy turns. Together, these categories account for more than $400 billion of the nation’s consumer debt portfolio. And, if credit cards are a leading indicator, the increasing delinquencies over the past two years are worth monitoring.

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For Our Low-Income Designated Credit Union Clients Just a reminder that last week the NCUA’s Community Development Revolving Loan Fund (CDRLF) program released its Grant Round Application Guidelines for FY 2019. This important program is designed to assist low-income designated credit unions in providing basic financial services to their members to stimulate economic activities in their communities.

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