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Updated on Wednesday, July 23, 2014
Consumer banking should be boring.
Depositors should be paid a fair interest rate.p
Responsible borrowers should be given access to loans at reasonable interest rates.
And the people in the middle (the bankers) should be paid competitive salaries.
Lending money (in the form of deposits) and borrowing money (in the form of mortgages, auto loans, personal loans or credit cards) does not require a complex product set. You should know how much you’re going to receive (for your deposits) and how much your are going to pay (for your loans). The terms and conditions should be able to fit on one page.
Unfortunately, most banks do not operate with simplicity, value and service as guiding principles. But there is a unique exception, whom we want to honor today. At MagnifyMoney, we have reviewed thousands of products offered by hundreds of financial institutions. And in the midst of this confusing jungle, one organization stood out consistently from the rest: PenFed.
PenFed, established in 1935, is one of the nation’s oldest and largest credit unions. They have 1.3 million customers, and nearly $17 billion in assets. This is not a small organization.
And they are not a charity. PenFed made a profit of $116 million last year. They generate earnings, and are growing rapidly.
So, what separates PenFed from the big banks, particularly the Big Four (Citi, Chase, Wells Fargo and Bank of America)?
PenFed looks very different from the big banks in four ways:
- Pay of senior management
- Pay of front-line branch staff
- Interest rates charged on loans
- Customer service culture
We will talk about each one of those items below.
1. Senior Management Pay
We believe that pay at the top has a big impact on the culture throughout the organization.
The CEO of PenFed made $802,000 last year. That is an amazing salary. Most people would dream to have a salary of that size.
We do not believe that the CEO of Wells Fargo deserved $18.5 million more than the CEO of PenFed. But, with pay at that level, we do believe that the CEO of Wells Fargo will have a greater incentive to grow faster and generate more earnings. And the way that happens in banking is to pay lower rates on deposits, charge higher rates on loans, and create more complexity (so that people do not realize the value that they are giving up). Only by creating excessive returns can CEOs justify outsized returns.
And if pay was judged based upon customer satisfaction, I doubt the Wells Fargo CEO would make more money than the PenFed CEO.
The CEO of PenFed can have an amazing home, a wonderful country club membership and a business with good returns. I don’t want to be a customer of a bank that needs to justify a $19.3 million payday for the big boss.
2. Pay of front-line branch staff
I believe that people do what they are paid to do. Even the best people can be corrupted by powerful incentives.
When a branch employee is given an incentive to sell insurance, he or she will often sell insurance, regardless of the need of the customer.
I have met with and spoken to branch and call center employees at PenFed. One woman in particular used to work previously at a large multinational bank. Her biggest relief when she moved to PenFed: she is not paid a sales incentive. Rather than being pressured to sell products that consumers do not need, she had the flexibility to help them choose the products that best serve their needs.
Just imagine the difference between the two working environments. At a large bank, you are given monthly and daily targets. Your take-home pay will depend upon how many products you sell. And failure to sell can result in your termination.
At PenFed, you are paid a flat salary, and promotion depends upon your ability to keep customers satisfied.
Where do you think customers will get better service?
3. Interest Rates Charged on Loans
PenFed does not have shareholders. Every customer is an “owner.” That is a true game-changer, and that is why credit unions can often be so much better than banks.
Last year, PenFed generated a profit of $116 million. That represented a return of about 7% (return on equity). Large banks (like Bank of America) target much higher returns. In Q2 2014, the consumer business of Bank of America had a return of 24.3% (from their quarterly earnings, based upon allocated equity).
At the end of the day, banking is simple math.
You lend at a rate that is higher than the rate that you pay to depositors. The value that consumers receive depends upon the equation that the bank wants to solve. If Bank of America wants a 24% return, then it will pay less on deposits and charge more on loans than an organization that wants a 7% return.
So, we should not be surprised that Bank of America charges so much more than PenFed.
Here are just a few examples:
- On credit cards, PenFed charges most of its customers a flat interest rate of 9.99%. Bank of America charges from 12.99% to 22.99%
- On personal loans, PenFed charges 6.49%.
- Even for mortgages (30 year conforming), Bank of America is charging an APR of 4.247%, compared to 4.103% at PenFed (as of 22 July). 0.1% over 30 years can make a big difference on a mortgage.
If you need to borrow money, PenFed is likely the best first place to look.
4. Customer Service Culture
PenFed people are great. They have on-shore call centers and a small (but friendly) branch network.
When you have the right incentive system and amazing products, you tend to end up with a team that wants to help customers. I urge you to call one of the large banks with a question about a credit card interest rate. Then call PenFed. The difference is painfully obvious. And that difference became very clear to me when I was doing product research for MagnifyMoney.
But you also see that commitment to the customer in the fine print. PenFed does not have risk-based re-pricing, foreign transaction fees or over-limit fees. Even better: the summary terms and conditions can fit on one page.
Anyone can join PenFed. The best way to join is to give a donation to our troops. You can support a good cause (usually $15 is enough), and become a member of a great organization.
If you ever need to borrow money, there is likely no better place than PenFed.
However, there are three areas where I would caution against using PenFed:
- The interest rates paid on checking accounts are lower than the rates you can get from online banks (like Ally). Savings accounts pay 0.05%. That is better than most banks (which pay 0.01%), but you can do much better at places likely Ally (that pay 0.87%)
- If you are looking for rewards on credit cards, you can usually do better elsewhere (so long as you pay your bill in full every month). Big banks build cashback credit cards on the assumption that you don’t pay your bill in full every month, and end up paying big interest charges. That is why they are ready to pay 1.5% or higher. Because PenFed is not in that business, they tend not to offer the best rewards cards.
- If your credit score is below 700, it will be difficult to be approved for a PenFed product. I would love for PenFed to expand its product set and start offering products, at much fairer prices, to people with lower credit scores.
We salute PenFed. Without shareholders, they can target a return that is much lower than banks. With the right incentive scheme, they have employees and management focused on the customer. And with their desire to grow, they are creating amazing lending products.
If you are thinking of buying a home or a car, consider PenFed. And, if you are stuck in a sub-prime auto loan, consider re-financing with PenFed.
PenFed reminds us of a different era, when banking was simpler, products were cheaper and you built long-term relationships with your bank. We hope they keep growing.