Credit cards unkindest cut for U.S. consumers
Government intervention or not, banks will be cutting up America’s credit cards at an unprecedented rate, with grave implications for the economy and company profits.
The U.S. Federal Reserve last week added more nutrition to its alphabet soup of rescue programs when it unveiled the Term Asset-backed Securities Loan Facility (TALF), under which, among other things, it will lend up to $200 billion to investors in securities backed by credit-card, auto and student loans.
It did so for a very good reason: the securitization market’s freeze now extends beyond mortgages, imperiling run-of-the-mill consumer financing and making it a certainty that many people who use credit to get them over “cash flow” situations will be, well, denied.
And even though the U.S. car industry may implode if starved of finance and many students will have to defer education, the real potential disaster is in credit card funding, which could push lots of households over the brink and in the process consumption and every business which depends on it, which would be all of them.
Put simply, even with an apparent will to try anything to bring the wheels of finance back into motion it will be very difficult for government to quickly fill the hole left by private finance. Details of the plan are still sketchy, but let’s just take it for granted that it works, even if the plan, at only one year, will give them huge fears about how they get out of their positions at the end of 2009.
Beyond that, the Fed is seeking to kick start securitization by attracting back a species of investors, leveraged ones, who don’t really exist any more.
All other things being equal, the amount the Fed is putting into the TALF should take the ABS market back to about where it was in the first half of 2008, which itself was only a third of the volume we saw in 2007.
But all other things are not equal.
The banks that provide the bulk of credit card funding generally want to cut back, pushed by their own woes, a conservative read of the economic situation and, potentially, regulatory changes that, while intended to ward off the excesses of the last bubble, will magnify the impact of its bursting.
Meredith Whitney, the Oppenheimer and Co analyst who has so far been ahead in identifying and explaining the weaknesses in the banking system, thinks over $2 trillion of credit lines, or 45 percent of lines available, will be pulled out from under American consumers in the next 18 months, a figure that puts the Fed’s $200 billion for asset backed finance in its proper perspective.
“We are now entering a new era within the financial landscape that will be characterized by expanded forced consumer de-leveraging with a pronounced downshift in consumer spending,” she wrote in a research note.
“We view the credit card as the second key source of consumer liquidity, the first being their jobs. Pulling credit at a time when job losses are increasing by over 50 percent year-on-year in most key states is a dangerous and unprecedented combination, in our view.”
BIG BANKS ALL WANT TO CUT BACK
Whitney notes that the three largest credit card lenders, Bank of America, Citigroup and JP Morgan, who between them account for more than half of U.S. credit card outstandings, have each discussed reducing card exposure or slowing growth. Capital One and American Express, who are another 14.5 percent, have also talked about limiting lending.
That will set the tone for the rest of the industry, which will be grappling with new regulation that, if goes ahead as planned, will impair profitability of credit card lending and push more off-balance sheet securitizations back on to the banking industry’s already strained books.
Cutting back on abusive lending and forcing banks to recognize and account for the risks they take are surely good things, but will have the perverse effect of making the credit crunch worse, at least temporarily.
And looking at the balance sheets of individual Americans, there is good reason to think that the credit crunch should get worse: that they should consume and borrow less and save more. I’d argue that far from being non-functioning, financial markets are closer to pricing in the true risk of lending to consumers now with credit cards charging about 10 percentage points more than 5-year Treasuries than they were six months ago when it was only about a 7.65 percentage point gap.
But the mother of all unintended side effects is that the faster consumers cut back, the worse it will be.
The kind of consumer cut back implied by the consumer credit crunch that now looks likely would blow a hole below the waterline in the U.S. economy, and in U.S. company profits and the stocks that reflect them.
The Federal Reserve and U.S. government’s use of unconventional measures is only just beginning.
— At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. For more columns by James Saft, click here. —
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