Consumer Credit: The Next Bubble?

by: Markham Lee

If there was a Wall St. zodiac, this year would probably be dubbed “The Year of the Bursting Bubble”. Late 2006/early 2007 saw the markets accepting the end of the housing boom, then we had the subprime crisis followed by Alt-a mortgages and the realization that we had a full-fledged mortgage crisis. On the corporate credit front, we were hit with the credit crunch/liquidity crisis and the end of the buyout boom. Judging by some recent events and the Q2 earnings reports of the retail banks and other major lenders, an overall consumer credit bubble may be next.

Revolving Debt Use

The months of May & June saw spikes in the amount of revolving debt carried by consumers, with increases of 12.2% and 8.4% respectively. At the same time, consumer spending was relatively stagnant which seems to indicate that people were using their credit cards to pay their bills rather than fuel consumption. Whilst credit card delinquencies have remained relatively stable, it does seem to indicate that people are going to slowly max out their credit cards and then fall behind on payments.

It was recently reported in the Wall Street Journal that banks are tightening their standards for credit cards and personal loans. When reading the article, these particular passages jumped out at me:

For the most part, lenders say the changes aren't directly tied to the mortgage mess, but reflect concerns about an economic slowdown and uncertainty about interest rates. Still, some lenders are becoming more cautious about extending credit in weaker housing markets and to people who may have exposure to certain riskier mortgages


A spokesman for J.P. Morgan Chase & Co.'s Chase says the company has been tightening up credit guidelines across some consumer products, such as home-equity and auto loans, mainly among customers with weak credit who live in markets that have been hurt by a decline in home prices.

If you read between the lines, the implication is quite obvious: the banks were well aware that people were using home equity appreciation to stay out of trouble with their credit cards. I’ve witnessed situations first-hand where an individual paid off their credit cards with a home equity loan and saw an immediate increase in their credit lines, even though the credit cards and home equity loan were from the same bank. Obviously, many of the banks were utilizing the same bad judgment with credit cards that they were with mortgages.

Late Loan Payments

The FDIC recently reported that late loan payments (of which mortgage payments are merely a portion) grew by 36.2% in a YoY basis, with residential mortgage loans that are 90 days delinquent growing by 12.6%. Loan provisions were also increased on YoY basis of around 75%. The key data point here is that late payments are rising on all types of consumer loans, indicating that consumers are difficulties servicing debt of all types.

Rising Auto Loan Defaults

In an earlier article, I noted that Capital One saw a nearly 60% YoY decrease in profits within its auto lending business. Back in July, MSN Money published an article detailing a surge in auto loan defaults and car repossessions:

One in three auto-loan borrowers have payments greater than $500 a month, according to consumer credit agency Experian, and 12% have been late at least once.

In a survey for the National Automotive Finance Association, BenchMark Consulting International said monthly repossessions by subprime lenders increased 15% last year.


For the first time in several years, prime lenders increased the number of loans extended to risky consumers. Those with FICO scores below 600 moved from 4% to 8% for used vehicles and 2% to 6% for new vehicles, BenchMark reported. "They're moving downscale, and they're also lending money to the higher-risk players," Cunningham said.


Subprime lenders also reached down the credit scale, with 54% of deals made to buyers considered a high or superhigh risk, those with FICO scores under 549, up from 34% in 2005. "All of these are kind of pointing to higher delinquencies and higher charge-offs," Cunningham said.

Consumers Living Above Their Means

Whether it’s auto loans, credit cards, mortgages, etc., a lot of the lending-related malaise is due to consumers who chose to live above their means or needed debt to finance day-to-day operations due to not being able to make ends meet. Right now, the brunt of this problem is concentrated within mortgage lending, but it stands to reason that it’s going to spread to credit cards, auto lending, and other types of lending rather soon. Wall Street ignored the oncoming mortgage crisis even though there were plenty of signs signaling it was coming, so will it ignore the oncoming consumer debt crisis as well?