Credit card revenue modeling used to be simple. If you were like most top credit card issuers, you could build a reliable forecast by building the aggregate from the bottom up by looking at account seasoning. Accounts booked in month “X” were 24 months old, FICO Scores were stable, Credit Line Utilization was “Z,” and current write-off performance was “N.” Unemployment numbers were steady.
Build the model out month by month. You are home free with a prediction that served investors well and supported management bonuses for operational losses and credit card revenue.
Now comes COVID, and the models do not make as much sense, as The Wall Street Journal reported today in an article titled “The Coronavirus Economy Is a Mixed Bag for Credit-Card Issuers.” Here are some of the highlights:
- Consumers are spending money as if the coronavirus recession is over. But they are also paying down old debts and avoiding new ones in case the pandemic lasts a while.
- That is the discordant picture of the U.S. economy that emerged from third-quarter earnings reports from some of the country’s largest credit-card issuers.
- Although retail spending accelerated at the end of the third quarter, consumers still shied away from borrowing to finance everyday expenses and shopping binges.
- End-of-September credit-card balances at Capital One, Discover, Synchrony, and American Express Co. were below their 2019 levels. Late-payment and defaults rates also decreased at those banks from prior quarters, even after programs that gave borrowers a reprieve on repayments ended, suggesting that consumers are willing and able to get out from under existing debt.
Predictability is key to good forecasting and credit manager success. Operating managers can handle losses, but no one likes surprises. If risk went up the line and recognized correctly, accountants can brace for the change, and operating heads can add resources.
I learned this at Citi decades ago. Being $10 million worse or $10 million better on a monthly forecast indicates you do not know what is going on in the business. Sure, everyone wants to be a hero, but if your manager is expecting to land at a specific number, and you bring an unexpected $10 million benefit, that raises a question. Were you sandbagging, or do you not know how your numbers flow?
But today, some metrics move erratically.
- The dissonant behavior on display in those banks’ earnings adds to a set of mixed signals that consumers and businesses are sending about the state of the economy, making its underlying strength or weakness hard to discern.
- Millions of Americans lost jobs in the past seven months, yet average credit scores are at an all-time high.
- Stock markets remain buoyant even as a number of industries, from air travel to live entertainment, have watched revenue plummet.
Richard Fairbank knows credit cards better than most after building Capital One into a global force in credit cards. In a WSJ quote, he says:
- “This is the biggest disconnect that I certainly have experienced in my three decades of building Capital One between what we see in the economy itself and the actual performance of the consumer,” said Richard Fairbank, Capital One’s CEO, in a conference call with stock analysts last week.
- “I think it’s just a matter of time before this thing could reverse itself in a significant way,” Capital One’s Mr. Fairbank said on the conference call.
Yet, credit card results hold firm (at least for the moment):
- Loan performance was better than many had been expecting. Analysts at Janney Montgomery Scott said in a report on Monday that the amount that the typical bank set aside in the third quarter to cover potential defaults in the future was about half as much as Wall Street had estimated.
- Executives cautioned payment trends could change in the autumn and winter as cities and states deal with the economic impact of rising numbers of coronaviruses cases. Job losses that were temporary could become permanent, and the absence of more relief money from the federal government could worsen the economic outlook.
But for now, the books will close in exactly 64 days. I bet we all can’t wait to turn the page!
Overview by Brian Riley, Director, Credit Advisory Service at Mercator Advisory Group