A Warning For Credit Card Issuers

Credit unions will face headwinds in the coming year, but a well-managed credit card portfolio can weather the storm.

 
 

As credit unions head into strategic planning, every credit card issuer should plan to regroup and prepare. Many of the positive forces that have supported credit card programs since the last recession will not continue into 2020. In fact, the coming year could be the toughest year for issuers since the end of the Great Recession. 

Adequate planning for 2020 and beyond will require a realistic view of what all credit union credit card issuers will be facing. That realistic view includes some difficult truths; however, a well-managed credit card program can still yield strong results for the loan portfolio. 

First, the bad news … and then the bright side. 

No More Rising Tide To Boost Yields

On the revenue side, the rising tide created by the rising rate environment from 2015 through 2018 is on its way out. The prime rate increased a total of 225 basis points, lifting the yields on every variable priced credit card — which is virtually all credit cards — and supporting program bottom lines in a period of otherwise rising expenses. This four-year period was the most profitable for the card industry since the turn of the century, largely because of rate help from the Fed. 

But, this is over. The Fed reduced the prime rate in July. There won’t be any more increases, but there might be further decreases. The prior improvements in yield will be reversed at least somewhat, which will immediately compromise revenues and profitability. Yields from 2019 benefited from rate increases in 2018. The opposite will happen in 2020 as APRs and yields come down from this year.

Increasing Funding Costs Put Pressure On Margins

Expect the cost of funds to continue to rise despite the rate decrease by the Fed. Liquidity is under pressure again as maturing older time deposits reprice to current rates — all of which keeps edging up liability costs. A declining yield and an increasing cost of funds undeniably leads to margin compression on credit cards. Issuers knew they were lucky for several years, but it still hurts when luck turns in the other direction.

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No Break On Operating Expenses

The expense side doesn’t contain much good news, either. Operating expenses don’t come down. Processing organizations must continually reinvest in technology and servicing platforms to meet expectations for cardholder experience, to help clients compete with Fintechs trying to steal away card balances, and to respond to RFPs that too often focus on price over functionality — regardless of how initial statements promise otherwise. They do all of this while also running the treadmill against ever-more-sophisticated fraud techniques and value-added services demanded by clients. 

The capabilities of internal staff must be well ahead of what they were even a few years ago to keep a program well-managed and competitive. That costs money, too. Operating a card program takes resources, and to try to improve profitability by cutting expenses will more likely stunt the program quickly and impair it for years to come.

Consumers Expect Ever-Richer Rewards

Then there are reward costs, which, for many issuers, are the fastest growing expense category. For some, they’re the largest category of all.

The primary factor in consumer card choice, and card use once originated, is far and away reward value. To compete, credit unions must meet the reward expectations of consumers, which these days is approximately a 1.5% value against purchase volumes. 

Sure, a credit union can provide less, and the cardholders who have been in its portfolio for a while will lumber along and will, mostly, stay. But new accounts will be hard to generate and the total portfolio will … ever … so … slowly … lose … steam. 

Most critically, not offering a competitive reward program, both in tangible value and member experience, will jeopardize the credit union’s ability to attract and built the deepest possible relationships with Millennial and younger segments. I have yet to meet a credit union that thinks it can succeed without engaging these segments.

And, Don’t Forget Credit Losses

Emerging from the recession, credit unions had the lowest credit card charge-off rates in the history of credit cards. Nirvana! But that time is over. 

Credit union credit card charge-off rates have been rising each year since 2014. Incredibly, were it not for the Great Recession, credit union credit card charge-off rates would now be at a historic high — at a time when the economy has been flourishing (at least for some). 

Credit risk is not coming down in the near term, and the recent concerns over the odds of recession suggest that a material increase should not be surprising.

The Bright Side: A Card Program Is Still Worth The Effort

If this is too much gloom and doom, just remember a few fundamentals truths about credit cards that remain valid even when managing through significant headwinds. 

Credit cards almost always have the highest ROA of any loan product. Returns for 2020 will be lower than in the past few years, but the program still should have an ROA of 3% or greater. As long as this is the case, credit cards will generate a disproportionate return to the benefit of the entire credit union.

When you attract a member to your credit card and engage them in its value, it will be the most-used product in their relationship and can be a central reason they stay with the credit union. In the best case, a card can even serve as the backbone of an overall membership loyalty and acquisition program. That’s not too shabby. 

The takeaway here is not to forsake credit cards, quite the opposite. 

Instead, credit unions should understand the pressures this critical product is under today, plan rigorously but reasonably for what that means for next year, and support the growth and forward movement of the product management team by providing the time and resources it requires. 

There is a reason four out of five credit union credit card programs grew at below average rates last year: Those organizations did not do these things. Bad decisions are easy to make during tough times, but good decisions can push a card program past competitors when they least expect it. 

Let’s prepare to make those good decisions and brace for the storm.

About The Author

Timothy Kolk is the owner of TRK Advisors and brings almost three decades of credit card experience and expertise to his clients. Kolk has helped credit unions across the United States improve their card programs, better serve their members, and create long-lasting, high-performing card programs. He can be reached at tkolk@trkadvisors.com or (603) 924-4438.

About TRK Advisors

TRK Advisors brings unmatched expertise to any card issuer. Areas of expertise include program performance analysis and opportunity identification, market and member segmentation, product design, processor RFPs, marketing program development, affinity/cobrand programs, de novo (startup) programs, and much more. 

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Sept. 9, 2019


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