Is the US card industry finally seeing some light at the end
of the tunnel? It would appear so following the latest report from
credit ratings agency Fitch, which has reported that US delinquency
levels are receding from previous highs. However, issuers shouldn’t
jump for joy just yet, as Charles Davis


The US card market, desperate for any good economic news, finally
received some this month. For the first time this year, Fitch
Ratings reported that delinquent receivables in US credit card
portfolios receded from their month-earlier levels.

The news is even brighter when one realises that the improvement
snaps a string of four straight record highs for delinquencies and
could result in lower or stabilising charge-offs in the coming
months, according to the latest Credit Card Index results from
Fitch Ratings.

“At this point, any sign of a pullback from the rate of
acceleration in delinquencies is welcome news,” said Fitch managing
director Michael Dean. “Whether it develops into a trend remains to
be seen and since it will take time to work through, we expect
continued increases in charge-offs over the next few months.”

Mixed signals

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Fitch said that despite the anticipated worsening performance, the
current ratings of senior tranches are expected to remain stable
given available credit enhancement and structural protections
afforded investors. The outlook for subordinate tranches, however,
has become increasingly negative, particularly given excess
spreads, charge-offs and personal bankruptcy filing trends.

Despite declining for the first time in five months, delinquencies
remain elevated near record levels and nearly 40 percent above
year-earlier rates. For the month, Fitch’s delinquency index, which
measures receivables more than 60 days past due, declined 7 basis
points to 4.4 percent.

The delinquency results are brighter, but it is worth noting that
they come as charge-offs set new record highs and excess spreads
contracted further. Fitch’s Prime Credit Card Charge-off Index
climbed 77 basis points to reach 9.7 percent, the third consecutive
record result. The index is now 51 percent above year-earlier

Three-month average excess spreads meanwhile narrowed to 5.3
percent. Excluding the effect of the bankruptcy spike in 2005,
excess spread levels have not been this low since early 2001. The
compression in excess spreads is being driven by both a decline in
gross yield and an increase in charge-offs. Funding costs, largely
determined by one-month US dollar LIBOR rates, have remained low.
Fitch expects further compression in the three-month average excess
spread, as the one-month measurement declined to 4.4 percent.

Over the last 24 months, the prime rate has dropped 500 basis
points to 3.3 percent, while gross yield has declined by only 122
basis points.

“This resiliency is partially attributable to the significance of
fee income relative to interest income in recent years, however, it
also reflects the effectiveness of the pricing actions that many
card issuers have taken in advance of regulatory and legislative
changes,” said Fitch. “The incremental yield generation, while
robust, is not substantial enough to completely offset the increase
in charge-offs, which have more than doubled during the same
two-year period, surging 503 basis points, from 4.6 percent to 9.7

Charge-offs remain a cause for concern

The US cards market might be relieved by the delinquency slowdown,
but charge-offs are a longer-term worry. Fitch expects charge-offs
to exceed 10 percent over the next few months, and to remain
elevated through the first quarter of 2010, when unemployment is
expected to peak. However, the recent improvement in the
delinquency rate could foreshadow a peak in charge-offs later this
year instead, Fitch said. A further rise in bankruptcy filings
could compromise this outcome, as weekly levels are approaching
volumes not seen since early 2005.

Monthly payments rates have exhibited some fairly typical seasonal
volatility early this year, but are now hovering around 17 percent.
Though not as strong as the 20 percent payment rates frequently
observed over the last few years when consumers were spending
liberally and could bail themselves out by tapping home equity,
payment rates are still in excess of the 16 percent average since
the inception of the index in 1991.

The improved delinquency numbers are reflected in the master trusts
of Bank of America (BofA), Citigroup and JPMorgan Chase, as well as
some of the larger regional issuers, but the big question is when
charge-offs will begin to slow down as well.

Fitch thinks that the steady increases in consumer-debt default
ratios – the other side of the charge-off equation, along with
delinquencies – are likely to keep charge-off ratios elevated for
the remainder of the year. Bankruptcy filings are the real wild
card – no one can predict them with any accuracy.

Charge-offs at big issuers still on the rise

A glance at the May numbers for the three biggest US issuers tells
the tale. A case in point is BofA, where the charge-off ratio
jumped from just under 10.5 percent to 12.5 percent. Charge-offs
rose to 10.5 percent from 10.2 percent at Citi and to 8.36 percent
from less than 8.1 percent at JPMorgan Chase.

BofA also has had the highest delinquency rate among the three
banks, with 7.95 percent of accounts running more than 30 days
overdue, compared with 4.52 percent at JPMorgan Chase and 5.58
percent at Citi. The good news is that past-due accounts at all
three banks dropped from the levels reported for April.

US banks are also keeping a close eye out for the effects of the
Cardholders’ Bill of Rights Act, now signed into law. Fitch said it
expected minimal immediate effects from the legislation, in large
part because US issuers have been preparing for similar regulatory
changes by implementing portfolio wide re-pricing initiatives in
front of the legislation.

“While the revenue composition will change as a result of the
legislation, we expect actual yield generation to remain similar to
current levels of around 18 percent as fee structures and pricing
components change,” Dean said. “As such, the legislation itself is
not expected to impact credit card ABS ratings at this time.”

Fitch expects that along with other actions, card lenders will
continue to reduce credit lines and will become more cautious in
the granting of new accounts and establishment of initial credit
lines. Such actions are likely to fall more heavily on weaker
borrowers or those with limited credit histories – the very people
the law sought to protect.