DBRS Morningstar’s Takeaways from SFVegas 2023: Why Credit Card Debt Reached Record Levels and How Issuance Has Performed

As part of its takeaways series, DBRS Morningstar is publishing several write-ups about pertinent topics discussed at SFVegas, an industry conference for the structured finance/asset-backed securities (ABS) sector. Panelists Tim O’Neil, Managing Director, Head of Canadian Structured Finance at DBRS Morningstar; Raj Khosla, Director, Capital Markets at Bread Financial; Al Agra, Director, Capital Markets at Discover Financial; and Theresa O’Neill, Head of ABS Research at BofA Securities, answered questions from moderator Charles Sweet, Partner at Morgan Lewis, on the credit card ABS market. The discussion included record U.S. credit card debt balances, impacts on consumers, policy issues, and U.S. dollar bank issued credit card ABS performance.

RECORD CREDIT CARD DEBT
The panel noted that credit card debt increased 15% to $1.2 trillion in 2022 (see note below on sources), driven primarily by three main factors:
-- Pent-up demand as consumers increased their spending on experience-based services that were not available during the Coronavirus Disease (COVID-19) lockdowns.
-- Banks increasing the number and availability of products offering 0% annual percentage rate (APR) and 0% balance transfer periods.
-- The Federal Reserve’s interest rate increases throughout 2022 that led to higher APRs and balances.

CONSUMER SENTIMENT
The panel acknowledged that with inflation, however, consumers are becoming more savvy about their spending. The consumer is more selective, and they’re making trade-offs on where to spend, generally moving away from nonessential items and buying cheaper products from discount retailers, such as Walmart.

Given that credit card debt is piling up, the panel highlighted the risk unemployment can have on credit card performance. It was noted that the unemployment rate is forecast to increase to 4.7% by Q2 2024. This and a sudden shock to the system, like the Great Recession or the pandemic, can put a strain on consumer finances, though recent surveys indicated that credit cards rank somewhere in the middle in terms of consumers’ payment priority, which can provide somewhat of a benefit to credit card lenders.

CREDIT CARD POLICY
On the policy front, the Consumer Financial Protection Bureau (CFPB) recently proposed a rule to cut late fees to only $8. The CFPB feels $8 is sufficient for credit card companies to recoup the cost of getting the late payment processed. President Biden even mentioned the proposal in his State of the Union address, which brought greater awareness to the proposal.

If the proposal passes as is, some panelists believe credit card lenders will move up market and shift their customer base to those with better credit history. It was also noted that, for the larger bank card issuers, late fees are a much smaller percentage of revenue at about 3.5% to 4.0%, while they can be a much bigger share of revenue for issuers at the lower end of the credit spectrum where borrowers are carrying balances more frequently and their pools have more revolving customers.

CREDIT CARD ABS PERFORMANCE
Performance trends for U.S. and Canadian bank card issuers were highlighted with slides showing recent payment rate, yield, excess spread, delinquency and loss trends to the end of December 2022. Overall, performance is at peak levels in terms of payment rate and delinquencies; however, the panel doesn’t expect these trends to continue given the higher interest rates and potential slowdown in the economy. Canadian bank issuers, on average, have payment rates of 60% compared with the U.S. bank issuers averaging closer to 40%. The higher payment rates also generate higher interchange leading to approximately 5% higher yields and excess spreads for Canadian bank card issuances. The panel noted that the high payment rates in Canadian and U.S. bank card programs are a result of loyalty programs, such as travel rewards, which generate a large amount of interchange fees. The U.S. issuers currently have slightly lower delinquencies and losses than Canadian issuers; however, over the long term, the Canadian programs have been more stable leading to lower overall enhancement levels. Finally, it was noted that delinquencies and losses are below pre-pandemic levels in both jurisdictions; however, the panel expects these trends to normalize throughout 2023 as interest rates remain elevated amid a potential economic slowdown.

Written by Caitlin Veno

Notes:
Sources: Federal Reserve and DBRS Morningstar commentary “U.S. Credit Cards: Credit Card Balances at Record Levels; Card Spending Growth Solid Yet Moderating” at https://www.dbrsmorningstar.com/research/410097.

All figures are in U.S. dollars unless otherwise noted.

For more information on credit card ABS, visit www.dbrsmorningstar.com or contact us at [email protected].

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