Is the purported decline in early-stage delinquencies one more "green shoot" of recovery or a head fake?

In the latest results-reporting period, many bankers touted a drop in loans that are one payment late. Bank of America Corp. said that such delinquencies had fallen for a second quarter in a row. Executives at a variety of banks, including M&T Bank Corp., Marshall & Ilsley Corp. and SunTrust Banks Inc., touted the phenomenon — and said it may mean credit pressures are abating.

Some skeptics say the industry is simply searching for something positive to say about an economy that is slowly moving through recession and that delinquencies could rebound this quarter as problems migrate from the residential to commercial sectors.

"I would not be relieved because of the second-quarter results," said Dimitri Papadimitriou, the president of the Jerome Levy Economics Institute at Bard College. "Higher delinquencies will follow … since we are expecting an increased number of unemployed and a lower level of economic activity for the rest of the year and next year."

If it comes to pass, however, a sustainable decline in early-stage delinquencies could be a major cause for celebration, foreshadowing fewer net chargeoffs and reduced provisioning and eventually lifting quarterly performance.

Richard Fairbank, the chairman and CEO at Capital One Financial Corp., said early-stage delinquencies in the McLean, Va., company's credit card portfolio were "strikingly down" from a year earlier, at 11%. Based on conventional wisdom, he said, "when there is improvement, it will … six months later make its way into lower chargeoffs."

Mark F. Furlong, the president and CEO at M&I, said, "We are seeing some signs in early-stage delinquency that may prove to be an indicator that … improvements in credit quality are becoming evident." He added: "It is difficult to predict how quickly this improvement will drive a decline in credit costs" but that it "bodes well for the future."

The reasons for the widespread reduction were many, observers said, and they point in different directions for banks. Though some experts are dismissing it as seasonal, others are pointing to lesser increases in unemployment. Still other analysts hinted during second-quarter calls that banks may be managing their portfolios to push those numbers down.

P.W. Parker, the chief credit officer at U.S. Bancorp, said its positive results may be tied to more-aggressive policies. "We've completely upped our protocols in the collection areas, and that does make a difference," he said during the company's quarterly call.

Fairbank said in Capital One's second-quarter call that the reduction in early-stage delinquencies is related to changing consumer habits. "People who have the means to do it are just being extra careful to avoid going into delinquency [and] to avoid going over their limits," he said.

Observers caution that conventional wisdom may not apply in this recession, with credits often showing a tendency to deteriorate at unprecedented rates. With that possibility in mind, some bankers were cautious.

"Let's face it, this economy is still tenuous," said Richard Anthony, the chairman and CEO of Synovus Financial Corp. in an interview last month. "The economy is stabilizing but not doing a heck of a lot more than that, so we're far from being complacent."

Bankers seem divided over the direction of credit card delinquencies.

Like Capital One, JPMorgan Chase & Co. reported improvement in early-stage delinquencies in its card book, though chief financial officer Michael Cavanagh said during the New York company's quarterly call, "it's early to draw big conclusions." He added, "You're starting to see it stabilize … , but we don't know how long it holds on."

U.S. Bancorp's Parker seemed less optimistic about the company's card portfolio. "We expect that, as the unemployment continues to rise, card losses will over time go up again," he said.

There is greater concern among bankers and outsiders over commercial credits, where the deterioration of one large syndicated loan could cause as much damage as dozens of bad residential mortgages.

Richard Davis, U.S. Bancorp's chairman and CEO, promoted "new repetitive improvement" in overall credit trends, but he also warned of "lumpiness," in which "you can have a large customer come out of nowhere" with problems. "We're going to leave that on the table as a possibility," he said.

Joe Price, the chief financial officer at B of A, said he was "cautiously optimistic" that lower delinquencies would translate into stabilized losses at the Charlotte company. "However, continued weakness in the U.S. and Europe and higher levels of bankruptcies would obviously keep pressure on this performance," he said.

"We still don't know what's coming, and neither do they," said Robert Albertson, the chief strategist at Sandler O'Neill & Partners LP. "What we do know is that it is going to be pretty rough into 2010 … and that commercial loans tend to deteriorate more rapidly and episodically."

Michael Mussa, a senior fellow at the Peterson Institute for International Economics, agreed that commercial credits are the key to keeping early-stage delinquencies down. "We still have a significant downward adjustment ahead of us in nonresidential commercial real estate," he warned.

"It remains to be seen how that will evolve. There are a lot of elements on the credit side that haven't fully played out."

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