The U.S. credit card business is finally starting to resemble its hairier, pre-recession self.
Next year there's likely to be more plastic in the hands of consumers with blemished payment histories, higher credit losses for the card issuers and a greater reliance on customers who use their cards to borrow rather just to earn rewards, according to industry analysts.
"I think everything is reverting back to normal," said Odysseas Papadimitriou, a former executive at Capital One Financial and founder of the comparison-shopping site CardHub.com.
The factors expected to drive the changes include a widely anticipated rise in interest rates and the fact that the Great Recession is now largely in the rearview mirror for both borrowers and lenders.
For the last half-decade, profits in the card business have relied to an unusually large extent on high repayment rates, cheap funding and surging revenue from swipe fees. The industry's profits have been strong last year the return on assets for large credit card banks was 5.2% though a bit lower than they were in the early to mid-2000s.
But improvements in the U.S. economy may soon change the calculus for card issuers. When interest rates rise, which many observers expect to happen in mid-2015, it will become more costly for the card companies to float short-term, interest-free loans to those customers who pay off their entire bills each month. Those customers, who are known as transactors and use their credit cards to accumulate rewards, have been the focus of intense competition among the card companies in recent years.
"I think rising rates could drive more attention to borrowers rather than transactors," said Christopher Donat, an analyst at Sandler O'Neill.
Higher interest rates are also likely to make lending more profitable, since the card companies are expected to hike the rates they charge to consumers by a larger margin than the rise in their cost of funds.
"I think that the modest of signs of improvement we see in the U.S. probably do augur well for a modest increase in the kind of growth prospects for the credit card industry," Richard Fairbank, the chief executive officer of Capital One Financial, said at an industry conference in December.
Speaking at the same conference, American Express CEO Kenneth Chenault said that his company has a chance to earn more of its revenue from interest charges on its cards. He explained that he does not envision a "transformational shift" but still sees a "pretty significant opportunity."
Even before the long-awaited rise in interest rates, loan growth in the credit card industry has picked up. Revolving consumer credit in the U.S. grew by 1.8% in the first quarter of 2014, 6.3% in the second quarter and 3% in the third quarter, according to data from the Federal Reserve Board.
Loan growth is important to the credit card companies partly because they appear to have squeezed as many profits as possible from the historically low loss rates of the last several years. In November, the net chargeoff rate rose at each of the industry's six largest issuers Amex, Bank of America, Citigroup, Capital One Financial, Discover Financial Services and JPMorgan Chase.
"Credit is no longer the tailwind," said Mike Taiano, an analyst at Burke & Quick Partners.
None of this is to suggest that the industry's go-go years are completely coming back, at least right away. That is largely due to regulatory changes, implemented after the financial crisis, which restricted certain fees and prohibited the repricing of existing consumer debt.
The new rules mean that card companies no longer have as many opportunities to get their money back when accounts become delinquent, emphasizing the need for solid underwriting.
In addition, many young adults were scarred by their negative experiences with credit cards during the recession, and they may continue to shy away from plastic even in flusher times. A recent Bankrate survey found that 63% of U.S. adults ages 18-29 do not have a single credit card.
"They view credit card debt as bad, in a way that baby boomers do not," Donat said. "Sort of like people who lived through the Great Depression some of them never bought stock."
Still, as large card issuers have eased their credit standards, they have been able to find willing borrowers. The loosening is happening in the form of both credit line increases and loans to consumers with lower credit scores. The number of new subprime credit card accounts jumped in early 2014, according to the most recent data available from the American Bankers Association.
"You've seen some decline in FICO scores," said Scott Valentin, an analyst at FBR Capital Markets.
Card issuers that have enough capital to underwrite riskier loans will tend to do so in an improving economic climate, according to Sanjay Sakhrani, an analyst at Keefe, Bruyette & Woods. "It would make sense and would follow the trends we've seen," he said.
But other observers warned card issuers to remain vigilant with regard to subprime borrowers. That's because losses in the card industry tend to materialize after the economy turns south and jobless claims begin to rise.
"It can become a dicey situation fairly quickly," said Matt Schultz, an analyst at CreditCards.com, "because you're talking about folks who might not have as much margin for error."