Credit card companies are having a real difficult time rediscovering the winning formula that enabled them to rake in huge profits before the financial crisis hit and losses started piling up. The record-high default and delinquency rates from last year have subsided, although they are still above historic levels, but consumers are now much more conservative in their spending and debt management. Additionally, now that the CARD Act is fully in force, issuers are restricted in their ability to raise interest rates, while penalty fees are capped and charging over-the-limit fees requires the cardholders’ prior enrollment in an overdraft protection program.
Here are some data from the WSJ:
Card companies are struggling to recover from $1 billion in losses racked up last year as a result of the financial crisis. Auriemma Consulting Group, a New York firm that specializes in the payments industry, estimates that card companies could earn about $4 billion this year. That is less than a quarter of the record $18 billion earned in both 2006 and 2007, according to Auriemma, which doesn’t include financial results from American Express Co. or Discover Financial Services Inc.
It is hard for issuers to make money when cardholders are not using their cards. Again from the WSJ:
The amount of outstanding credit-card loans shrank 10% last year, to $772.19 billion, due to tighter lending standards and a drop in consumer spending, according to the Nilson Report, a Carpinteria, Calif., industry newsletter.
Those loan portfolios are continuing to shrink. Chase, one of the largest issuers, has shaved more than $20 billion from its $127 billion portfolio. Over the past year, the bank has pulled back credit from its riskiest and least profitable customers.
The CARD Act is taking its toll too:
New federal card rules are expected to drain $11 billion a year from the industry over the next five years, said Robert Hammer, who runs a credit-card-consulting firm in Thousand Oaks, Calif. Those losses represent lost fee and interest revenue from charges that the law, enacted this year, bans. The losses also include higher costs of compliance with the law.
The CARD Act ensures that, even if consumers soon relapse into their happy spend-now-pay-for-it-later habit of the pre-crisis days, traditional card products will never be as profitable for credit card companies as they once were. Issuers of course realize that they need to get creative and are hard in search for alternatives.
One such alternative may turn out to be the prepaid card, until now the domain of little known, second-tier issuers. They are largely unregulated by the CARD Act and are typically issued to consumers with sub-prime credit scores. Used as debit cards, prepaid cards draw funds not from the cardholder’s checking account, but from an account with the issuer that is funded by the cardholder. Once the funds are used up, the cardholder has the option of re-loading the account.
Another alternative is the charge card, which is already being pushed hard by some of the largest issuers, including American Express and Chase. The biggest difference between credit and charge cards is that with the latter product, cardholders must pay off their balance at the end of each monthly cycle.
Yet another possible alternative is the private label card. Such cards are issued by credit card companies under the name of a different organization, such as Home Depot credit card offered by Citibank. Recently we learned that Target’s credit card profit rose to $149 million in the second quarter, up from $63 million a year earlier.
It may take them some time, but issuers will surely find a way to boost their profits. Whether they will be able to take them back to the pre-crisis levels remains to be seen, but that will depend not only on their own creativity, but also on the consumers’ willingness to cooperate.
Image credit: Theepochtimes.com.