Winning the Card Game in Today's Environment

In many ways, the last few years have not been easy ones for credit card issuers. The weak economy has caused a number of problems. Consumers weren’t willing to spend as much or borrow, issuers wrote off more accounts and the competition for good cardholders did nothing but intensify. These recent doldrums have left some issuers frustrated at the difficulty of maintaining, let alone growing, their portfolios. The good news is that the economy is improving and if the trend continues, many of the difficulties of managing a credit card portfolio should become a little easier. The problems for issuers started in 2000. Consumers’ spending had been growing rapidly with consumers increasing their spending by 5.4% in 1999 but slowing to a paltry 3.5% in 2000. In 2001, growth slowed further to an anemic 2.3% and edged up to a still weak 3.3% in 2002. The second half of 2003 finally brought some relief as the job market strengthened and spending grew by 4.00%. The first five months of this year have brought even more strength with spending growing at a 4.1% rate. As the economy continues to gain momentum, a disproportionate share of the continued increase in spending is likely to wind up on credit cards. This should result in a return to strong portfolio growth. While credit card portfolios should begin to perform better simply due to the economic recovery, there are a number of steps issuers can take to improve financial performance as well. These steps involve credit lines, fees, rates, account acquisition efforts, and balances. Unlike the typical closed end loan, credit card issuers generally have the ability to make changes to ensure that the relationship remains economically sound for both the institution and the cardholder. One aspect of this relationship is the credit line. On the downside, cardholders who default will tend to do so with the balance on the card at or near the credit line. On the other hand, the most profitable relationships tend to use the credit card as a source of financing and carry balances on the card every month. The credit line cuts both ways. If credit lines are too high, the size of each individual loss increases, resulting in higher loss rates for the overall portfolio. If credit lines are too low, they may not meet the needs of some of the most profitable cardholders, depressing portfolio returns but also forcing these cardholders to seek another issuer. To avoid a situation where individual credit lines are too high, pushing loss rates upwards, or are too low, pushing profitability lower, some steps should be taken periodically. One strategy for preventing overly generous credit lines is to periodically review credit scores of existing cardholders and review the lines of credit for all who have fallen below a particular cutoff FICO credit or bankruptcy score. Another strategy is to review credit lines of cardholders who have experienced more than one or two late payments, NSF checks or over the credit line occurrences in the past year. Reducing these lines may reduce overall losses. Another strategy is to look for cardholders with high FICO (or equivalent), credit and bankruptcy scores and balances that are a high percentage of their credit lines. By identifying cardholders with the ability to handle and the need to have a higher credit line, two objectives may be accomplished. First, the cardholder can continue to use the card without being constricted by an overly tight credit line. Second, the cardholder will not feel compelled to turn to another issuer to meet his or her credit needs. Another way to lift profitability is to offer incentives to cardholders who transfer balances from other cards.The offer can be either to new cardholders to gain a new account or to existing cardholders to build profitable balances. This is typically done by offering a low rate. In recent years, offers of a 0% rate on transferred balances were common. These were made possible by the low cost of funds environment as well as by cardholders being charged a much higher `go to’ rate on their non-transferred balances (i.e. purchases made before or after the balance transfer). In addition, payments are typically also applied to the low-rate transferred balance causing the overall average rate on the card to increase as the promotional balance is paid down and new purchases are made. Credit unions could consider such offers as a way to offer a good deal while improving profitability. Before changing fees, pricing, or offering balance transfers, it is advisable to analyze the potential effects on profitability and cardholder profitability. Doing so will help to ensure that the actions taken do not end up hurting the portfolio or have an adverse effect on the overall cardholder population. Some card issuing credit unions are contemplating selling their portfolios due to the recent challenges. Those doing so should take a number of factors into consideration. One of the most important factors that may be overlooked is the value of the portfolio should it remain in the hands of the credit union. Because selling a credit card portfolio is typically a once in a career event, credit unions may wish to enlist the services of an independent third party to assist in this valuation. Ensuring that the value received for the portfolio is appropriate is a prudent and important step. While the last few years have been difficult ones for issuers, recent economic events portend better times ahead. In addition, issuers can take matters into their own hands to improve portfolio performance. Credit union card portfolios are typically high performers. Low loss rates, combined with good market share of the membership base, make them an attractive and important part of the balance sheet.