Those with an interest in the credit card industry, including regulators, equity analysts, and investors, would likely agree that one of the most important publicly available measures of industry health is the percentage of receivables that card issuers "charge off." Charged-offs loans are considered uncollectible and removed from issuers portfolios usually because of cardholder bankruptcy, death, or prolonged delinquency.
Charge offs are a significant drain on industry profitability and are closely watched by investors and regulators. Last year, bankcard issuers charged off $35B, or approximately 6.5 percent of their average out standings. The number of different entities that regularly produce a credit card industry charge off statistic ¾ at least eight ¾ reflects the importance of this metric to those who study this sector. Debt rating agencies, government regulators, brokerage firms, websites, and trade publications have all come up with their own ways of measuring credit card charge offs at the industry and individual issuer level.
Since consumers who are experiencing financial difficulty typically choose to pay their secured creditors ahead of their unsecured creditors, rising credit card charge offs are often the first sign of consumer credit trouble. Davis Wyss, chief economist at S&P, refers to the card industry’s charge offs as “the canary in the consumer credit mineshaft.” Rising credit card industry charge offs can signal that credit problems may be looming. When organizations release their charge off measures, conclusions about the profitability of the credit card industry, the condition of the nation’s economy, and the financial health of the U.S. consumer are formed. For example, in May 2003, one card industry trade publication reported the following: “An all-time high for credit card charge offs could indicate that the U.S. economy has not yet bottomed out, and may worsen before it rebounds.” In April 2003, another trade publication reported, “[d]espite assurances from card companies that they can keep losses under control during an unsteady credit cycle, analysts are clearly worried about portfolio deterioration, which they call the inevitable product of a souring economy.”
Given the importance of charge offs to issuer profitability and the impact they can have on the industry’s health, it is critical to understand how different charge off metrics are derived. This paper examines a variety of different charge off indicators, including those made available by the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Federal Financial Institutions Examination Council, Standard and Poor's, and Fitch Ratings. While other organizations track card industry charge offs, this paper focuses on metrics published by these five because of their availability or frequent citation.
After offering a brief overview of credit card charge off reporting, this paper describes how these organizations use different methods of calculating industry charge offs. Sampling techniques, frequency, availability, and calculation methods for each statistic are discussed. The paper concludes by comparing these statistics, analyzing how closely they track each other, and briefly reviewing how they are used by economists, researchers, and equity analysts. Finally, questions for additional research are raised.
Overall, the paper highlights two key findings. The first involves the industry’s increasing reliance on off-balance-sheet financing. Since each measure captures either on or off-balance-sheet charge offs (and not both), there is no longer a single measure that provides a truly industry-wide view. Second, while the different on and off-balance-sheet measures have generally moved together over the past decade, the series have recently diverged and become less correlated.
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PDF Ebook Measuring Credit Card Industry Charge Offs: A Review of Sources and Methods
