We have been dominated by the macro for months, but can continue to look for interesting stories at the micro level. Back when this blog started in 2007 I was incredibly bearish on the U.S. consumer - who had racked up huge debts, was living off the house ATM, etc etc - all so they could enjoy the 'aspirational' lifestyle. How things have changed. I wrote countless pieces on credit card usage - of course then the blowup in 2008 came.
About a year ago I changed my tune on the credit card industry - partly due to the fact that so much default had happened the prior few years [Jun 15, 2010: WSJ - Default, not Thrift, Pares U.S. Debt] and many of those customers won't be getting new cards anytime soon.... but also due to the little realized idea that so many Americans are living in houses that they don't make a payment on anymore (for up to 2 years in many cases) they can instead pay their credit cards and get those balances taken care of. [Apr 1, 2011: Consumers Continue Trend of Paying Credit Cards Instead of Mortgages] Indeed if you don't pay a $1400 mortgage for even 1 year that is just under $17,000. With the average credit card balance far under that, even using a fraction of the money that used to go to the mortgage payment towards the credit card would be a boon to these companies. This is of course an entirely new behavior we've seen the past 4-5 years - in the old days, when people actually had skin in their homes (i.e. large down payments) they would pay the mortgage at all costs, and other line items in the budget would suffer.
Now the nut in all this, is many of those same companies benefiting from the new behavior in credit cards, suffer from the lack of payment of mortgages. Citi, JPMorgan, and Bank of America are huge issuers of credit. The two outliers would be Capital One Financial (COF) and Discover Financial (DFS) - so those are the two I've been focusing on the past 12-15 months. Discover has been acting far better of the two of late, and yesterday (lost in the mess of the market) produced a quite solid quarter. That said, there are some interesting nuggets on WHY card usage has gone up - i.e. a lot of people are putting gasoline purchases on their cards, so as the price of gas goes up, their expenditures go up - but overall I liked the report. [Jul 21, 2011: Credit Card Usage in U.S. Up 10.7% But an Increasing Amount is Going to Basics Like Food and Gas] The chart is not horrible all things considered with the action in the broader market.
Some details via AP:
- Discover Card users used their plastic more often during the summer, with higher gas prices adding to increased pursuit of the card's cash-back rewards. The increased use, combined with better payment habits, helped Discover Financial Services fiscal third-quarter profit more than double.
- The Riverwoods, Ill.-based credit card company's results solidly beat Wall Street expectations. The company reported net income attributable to common shareholders soared to $642 million, or $1.18 per share, for the three months ended Aug. 31. That was up from $258 million, or 47 cents per share, in the year-ago quarter. Revenue rose 5 percent to $1.79 billion from $1.71 billion last year.
- Analysts, on average, were expecting profit of 96 cents per share, on revenue of $1.77 billion, according to a survey by FactSet.
- Higher gas prices helped push sales volume on Discover cards up 9 percent to $26.3 billion for the quarter. The average price per gallon during the June to August period was $3.648 per gallon, up from $2.729 the prior year.
- CEO David Nelms said gas purchases make up about 10 percent of sales, and the higher prices contributed about 2 percent of year-over-year growth. While he suspects that some customers have substituted spending on gas for other purchases, Nelms said the company has had difficulty measuring any shift. "The trick is, you don't know what people otherwise would have spent," he said in an interview.
- Nelms also said customers are keeping their accounts open longer. "We are seeing attrition rates that are the lowest we have seen in over 10 years in our card member base," he said during a conference call to discuss the results. "We are doing a pretty good job of hanging onto our customers." One reason for the reduced customer loss is less competition. That can be attributed in part to a law that took effect at the beginning of 2010 that restricts how quickly and how frequently card companies can raise rates. The rules make it "harder for competitors to come in and steal customers," the CEO said during the interview.
- An increased number of merchants that accept Discover cards -- up 7 percent from last year -- also helped boost spending.
- The higher usage was spelled out in figures that showed the volume of purchases its networks processed, including Discover, Diners Club International and its Pulse debit card network, rose 13 percent to $71.89 billion. Revenue from transaction processing rose 10 percent to $44 billion.
- The balances customers carried on cards rose 2 percent, the first such increase since the spring of 2009. Yet the company says it also sees more customers paying their balances off each month.
- Discover also sharply cut its provision for loan losses, or the money it sets aside to cover unpaid balances, to $100 million, from $713 million last year. It was able to do so because late payments fell to an all-time low, dropping to 2.43 percent of balances on an annualized basis. That's down from 4.39 percent in the third quarter of 2010, and less than half the all-time high delinquency rate of 5.6 percent in the fourth quarter of 2009.
- The rate of defaults, or charge-offs, also dropped by half, to $440 million, or 3.85 percent of balances, from $875 million, or 7.73 percent of balances, a year ago.
- Nelms attributed the improvements to the fact that those customers who didn't default during the height of the recession are increasingly reducing their debt.
- The reserve release helped drive earnings higher, but Sterne, Agee analyst Henry Coffey said investors should focus on the increased spending and higher balances customers are carrying. "That's what drives the business forward," he said, adding that Discover turned in "an amazing quarter."