Yes, the economy is weakening and companies are issuing layoff announcements right and left. But paradoxically, evidence suggests it is still a dandy time for the credit card business, which might logically be expected to suffer when people are losing their jobs and bankruptcies are on the rise.
Second-quarter earnings for seven leading credit card issuers rose an average of 21% from a year earlier, giving them some of the best performances in any segment among financial services companies, according to Keefe, Bruyette & Woods Inc.
For example, Capital One Financial Corp. said last month that it had its "16th consecutive quarter of record earnings" in the second quarter. MBNA Corp. beat analysts' expectations with earnings that rose 26.5% from a year earlier.
Indeed, despite the sluggish economy, rising chargeoffs, and a surge in bankruptcies, most of the major card firms' second-quarter earnings rose. (Citigroup Inc.'s card unit and the Discover subsidiary of Morgan Stanley Dean Witter & Co. were the exceptions, but they only missed the mark slightly.)
"Among financial services businesses, we believe credit cards are among the most flexible," David S. Berry, a Keefe Bruyette analyst, concluded in a report this month. Lower funding costs, which resulted from the Federal Reserve's rate decreases, have been particularly beneficial to the card firms, he wrote.
The consensus among people who follow the card industry seems to be that the big companies that have stuck with the business - which now includes roughly a dozen banks, specialty finance firms, and monolines - have figured out how to lend in various economic climates, and honed their credit-granting methods to a science.
While it used to be that the fortunes of card companies (and the card divisions of the commercial banks) would tend to rise and fall in line with the rest of the industry, the fact that these firms now appear to have weather-proofed their operations may suggest a new level of sophistication throughout the credit card industry.
Or it may not. Some experts point to a historic grace period between declines in consumer credit quality and aftershocks at the lending firms.
"There is generally a long lag time between the talk of business layoffs and the recognition of credit losses," said Denis LaPlante, an analyst at Fox-Pitt, Kelton, in a recent roundtable interview with American Banker. "Companies first plan for layoffs, then initiate them, which ultimately leads to higher delinquencies and ends with net credit losses. That whole process might take nine to 12 months.
"With layoffs growing in 2001, tougher times probably loom for the consumer in 2002," Mr. LaPlante added. "That is why we are leaning toward companies with either a more wholesale banking orientation and/or have a fair amount of commercial credit deterioration to date."
While the apparent prosperity of the cards firms always has the potential to reverse itself, recent reports about the industry suggest that the companies remaining in the business have matured to a point where they may be insulated against high losses.
"The independent credit card issuers have weathered difficult times before and, in our view, will continue to grab a disproportionate share of the industry's growth and profitability - regardless of the operating environment," said a UBS Warburg report, whose primary author was John McDonald, a senior specialty finance analyst.
The UBS Warburg report sounded a few lugubrious tones. It stated that the credit card receivables market "appears saturated after two decades of double-digit growth," since three-quarters of the adult population now carries a card, and most of the others probably do not have one for a good reason.
Over the past 10 years, the U.S. credit card market grew an average of 12.5% a year, "significantly outpacing the 5% annual growth rate of disposable personal income," according to the report, which predicted a 6% to 8% growth rate in the future.
Goldman Sachs Group Inc. has also weighed in on the card companies' results. In a report this month, the firm said it continues to predict that industry credit losses this year will increase by about 20% from last year.
"Now that most companies have reported second-quarter earnings with few credit-quality surprises, we can now refocus on the second half of the year, in which losses could begin to decline further from recent peaks and lower funding costs could offer additional flexibility," said the report, which was written by Robert G. Hottensen Jr., Michael S. Hodes, and Jamie Lustbader.
In the long term, the card industry will "face greater consolidation pressure, and companies with proven niches and true differentiation will likely emerge from the weaker economic backdrop prepared for further opportunistic expansion," the Goldman team concluded.
Mr. Berry stated in his report that Keefe Bruyette began the year predicting that "credit card credit quality would deteriorate straight through the year," since credit card performance is often pegged to the unemployment rate.
But the view has changed, he said. "We now think it reasonable to believe that industry writeoff rates will be relatively stable at their second-quarter level for the balance of the year."
Even the continuing rise of bankruptcy rates has not alarmed some card industry watchers, who commend the way some of the card companies have braced themselves.
In the view of Matthew Park, an analyst at Thomas Weisel Partners, the fact that bankruptcies have been growing more slowly so far in the third quarter than they did in the second quarter is good news.
"The continued stabilization in bankruptcy filings halfway through the third quarter is an encouraging development for the third-quarter earnings of credit card lenders," he said in a press statement. "
