Asset-backed securities play an important role in credit card lending, giving major issuers an alternative to funding receivables directly on their balance sheets. By packaging credit card receivables for the securitization market, issuers can access institutional capital while investors gain opportunities tied to consumer credit performance and interest rates. However, periods of economic disruption and exceptionally low interest rates can change the economics of this funding strategy, making it essential for issuers to carefully evaluate market conditions, servicing capabilities, and potential credit risks.
Asset-Backed Securities (ABS) are an essential part of credit card lending for top issuers. Instead of internally financing credit card receivables, top issuers can place large blocks into the securitization market where institutional lenders may find opportunities to hedge on interest rates.
The 2020 market for ABS has been soft because interest rates are low. Now with the Fed’s push towards 0% rates, credit card issuers should think twice about using ABS funding until the market settles.
Kroll Bond Rating Agency (KBRA), a leading bond rater, opines on the general banking market. For the general U.S. Banking sector, KBRA sees a stable banking environment for the coming months. Mercator agrees that the current market is undoubtedly affected by this global disruption, which most major Reserve Banks are reacting to.
Still, in contrast to the drivers of the Great Recession, the risks are not in credit quality, but rather factors surrounding employment, consumer preference, and the need to self-contain personal space.
Despite virus-induced uncertainties, KBRA’s rating outlook for the U.S. banking sector remains stable.
If a significant economic slowdown emerges in the U.S., loan portfolio quality would likely deteriorate from very strong levels.
Nonetheless, we believe potential problems would remain manageable in the context of earnings power, reserves, and capital.
Given sound risk-based loan pricing and management, U.S. banks would generally remain profitable even in the event of considerably higher charge-offs and continued margin pressure.
Loan portfolios are generally well-diversified, with manageable concentrations in industries at higher risk of the outbreak.
Its view of Asset-Backed Securities, where KBRA is one of nine SEC-registered companies that rate Securitizations, offers this report on business continuity, servicing, and collections.
All companies that KBRA spoke with have detailed business continuity plans and are preparing to transition to these plans if necessary.
Companies have advised employees to work remotely where possible.
Further, companies with advanced servicing capabilities have collection teams working remotely using company-issued laptops and headsets.
Other servicers have business continuity plans that use multiple geographically diverse collection sites.
Servicing and collection roles have the most significant operational differences across issuers based on the technological capabilities of each company’s servicing software.
One potential challenge is managing personally identifiable information by collectors in a remote environment.
As for collection operations, things appear stable.
From a collection perspective, KBRA has not observed any impact on portfolio performance at this time, as we believe consumers are starting from a strong financial position, and the situation is still early and evolving.
Several companies have been anticipating a downturn for some time and had already adjusted their underwriting criteria.
Seasonal delinquencies are at lower levels as borrowers began receiving tax refunds in February and early March, which should help ease the financial burden through the remainder of the month.
Every credit card issuer understands that patience will be needed.
Additionally, servicers are offering repayment flexibility to assist borrowers impacted financially or medically by COVID-19.
Upon request, borrowers may receive forbearance, loan extensions, and late-fee waivers. Many servicers are increasing customer service and collection capacity.
The COVID-19 disruption created new uncertainties for credit card issuers, but the early outlook for asset-backed securities and consumer credit remained relatively stable. Strong portfolio performance, established business continuity plans, and flexible servicing and collection strategies gave issuers tools to respond as conditions evolved. Still, with interest rates near historic lows and employment and consumer finances facing new pressures, issuers needed to approach asset-backed securities cautiously. Maintaining strong contingency plans, monitoring delinquencies and credit quality, and providing appropriate repayment flexibility could help issuers navigate the changing environment while preparing for potential deterioration in portfolio performance.
Overview by Brian Riley, Director, Credit Advisory Service at Mercator Advisory Group
