Have You Fed the Alligator? Assessing Your Credit Union’s Risk Appetite
Would you swim across a pool with an alligator for $1 million?
Some people may say yes, some no. Some may ask – has the alligator been fed? How big is the alligator? How big is the pool? Successful strategic plans require goals that are determined through risk identification and assessment, as well as an understanding of the different degrees of risk involved.
In the recent Sageworks webinar “Credit union strategic planning best practices: Bridging the gap between strategy and execution,” Ancin Cooley, CIA, CISA, of Synergy Credit Union Consulting, discusses the importance of setting and evaluating your credit union’s risk appetite.
What is risk appetite?
Risk appetite is defined as the amount and type of risk that an organization is willing to take in order to meet their tactical objectives, and that appetite should be described in a way that makes it easier for everyone at the institution to be on the same page. According to a Sageworks poll, only 14 percent of credit unions surveyed have a risk appetite statement in place. To begin developing such tools for success, a credit union’s risk appetite should be set and addressed during the planning process. “You can’t have a strategic process in place without having a meeting of the minds between the board and management in terms of what is your institution’s risk appetite,” says Cooley.
How to determine your credit union’s risk appetite
In order establish a holistic risk appetite, credit unions should first consider that of individuals in leadership. “The only way to really do this as a part of the strategic planning process is to make sure that three to four weeks before the meeting, you survey the CFO, CEO and chief lending officer, as well as the board members,” Cooley says. “Individually assess their risk appetites, take that in aggregate to determine the credit union’s risk appetite in terms of the combination of individuals and their willingness to take on risk.”
Understanding risk capacity
Oftentimes, credit unions expand their risk appetite unknowingly, which can result in detrimental effects years later. Not only is it important to be aware of risks taken, but it is also important to understand risk capacity – typically defined as capital base. “Some credit unions may have a higher risk appetite,” says Cooley. “But their capital base does not have the capacity to sustain the probability of default associated with some of the loan types being placed on the balance sheet.” For instance, if a credit union wants to build a member business lending portfolio, evaluating their risk appetite and capacity will help determine the amount allotted for the new endeavor. If the endeavor is not favorable, the credit union will still be well capitalized.
Holding strategic planning sessions on a regular basis allows credit unions to set and assess goals, leading to long term success. In these sessions, take time to develop a risk appetite statement and assess risk capacity. Ultimately, credit unions can use their risk appetite to drive strategic decisions, paving the way for stronger, more sustainable growth.