billddrummer

Credit Card Defaults Down in July

On Aug 18 12:38 PM Mark Bern wrote:

> Let's consider, for a moment, the accounting aspect of the reported
> numbers. Now, I may be a little rusty but this is how I believe it
> works.
>
> Step 1. First a customer (account) becomes delinquent (falls behind
> in payments). Each bank maintains their own proprietary metrics (rules)
> for determining when to set asside reserves to cover potential future
> losses if the account defaults. Not all accounts that become delinquent
> actually defalut completely. Each bank has its own process to keep
> this from happening and applies their own methodology gained from
> experience to determine which delinquent accounts (or what % of delinquent
> accounts) are likely to default. This entry is really a contra asset
> account that reduces the value of the asset. Tthe full value of the
> account is still a receivable at this point, while the offsetting
> contra account (or reserve for bad debt) does not specifically identify
> any accounts.
>
> Step 2. Once an account defaults completely and every internal effort
> is made to collect all or even a portion of the balance, the bank
> may take one of two actions. In many cases, they sell the account
> for pennies on the dollar to a collection firm (these represent many
> of the companies that advertise that they can help you reduce your
> debt). Or, the bank may just write off the account and close it.
> In either case, the account is closed and written off and the bank
> no longer carries it as an asset. An adjustment to the reserve (contra
> account) should occur at this time, since the previous write down
> of assets has already hit the income statement. Generally, the reserve
> for bad debts (contra account) account balance is adjusted by regular
> updates to an analysis performed on all credit card accounts in aggregate.
>
>
> Step 3. If a significant number of accounts are sold and/or closed
> and the associated balances written off, the total percentage of
> bad debts to the total can decrease, thereby requiring less additional
> reserves to decrease, respectively. Every bank goes through this
> process at their own speed and they each make decisions that are
> specific to their internal needs at each step along the way. Some
> are more conservative and write down bad debts more quickly, while
> others will drag their feet.
>
> Also, each bank can modify their metrics for evaluating these assets
> at any time and when they do those changes can affect the results
> dramatically or in small incremental ways. This may be called "managing
> the income statement" or some other such name. But the point is that
> we can't always put a lot of faith in any specific report coming
> out of any specific bank. We must look at the overall trends over
> time to get a clearer picture. The picture can be distorted much
> more easily in a snapshot than in a series.
> to present a united front to the public. And they would never do
> anything to distort the truth, even if it might imperil their stock
> prices. So, go ahead and believe whatever the banks tell us, >because they can be trusted. Do banks sell used cars?

To Mark Bern,

Right on the money as far as the accounting goes. (I work in commercial banking.) And since most banks will classify credit card loans as a 'pool' rather than specifically reserve against individual credit lines, the delinquency metric is a lagging indicator for higher reserves.

I believe there's more pain to come as the employment picture remains clouded. The banks now reporting lower delinquency rates had stricter credit criteria to begin with, and they are now reaping the benefits of tightening up qualifications 12-18 months ago.

On the other hand, the banks that are experiencing higher default rates now are the ones who didn't tighten soon enough.

Another interesting dynamic to this: Many banks are reducing or closing credit cards unilaterally, even on performing lines. The good news for the banks is that they can reduce the 'general reserve' if less credit is made available, thus increasing profits.

Do You Believe Borrowing Leads to Prosperity? (Part 2)

Mr. Quinn--

Another brilliant piece, and helps to explain why sales of 'consumer discretionary' products are moribund. It's not just because home equity lines have been tapped, not just because people are concerned about keeping their jobs.

It's because the American consumer has accumulated too much debt chasing irrelevant 'things.' Until the debt is repaid, don't expect people to spend.

I've seen this in my own situation. "Lived Large last year. Living Small now."

Living small means paying off the debt you racked up when you were living large. Because people lived beyond their means, they must now live beneath them to come back to equilibrium.

The problem is that debt can appear almost instantly, but it takes years to repay.

Look for moribund consumer spending for years.

Thanks again for a thought-provoking, timely, succinct and prescient piece.

Credit Cards: The Next Subprime?

Convenience, strapped wallets, and debt transfers all play a part. The best investment option seems to be the issuers (MA, V), not the banks. There's no credit risk at the issuer level--in fact, you could say that credit card financing is a form of factoring, because the receivable is created by the issuer but serviced through payments from the end user to the bank.

Unless banks begin to tighten up credit card criteria (soon to come in my opinion) MA and V will continue to show healthy revenue and profit growth.

Credit Card Spending Surges, While Retailers Slump

Adam,

Last quarter KSS revenue was up 1.5%, according to the transcript from the conference call.

seekingalpha.com/artic...

What dropped was net profits and EPS, linked to higher SG & A expense resulting from 28 new store openings, higher pre-opening costs driven by the same metric, and higher interest costs resulting from the $1 billion credit facility they tapped this year.

Credit Card Spending Surges, While Retailers Slump

Rusty,

Try WMT, COST, and Kohl's (KSS). None of these retailers are scaling back store opening plans, WMT is posting same-store sales growth that outpaces inflation, COST benefits from high median income shoppers who bargain hunt, and fresher discount product offerings at KSS are luring people away from JCP and SHLD.

K-mart is a train wreck. They could bring back the blue light specials but no one would respond.