Recent trends in the profitability of credit card banks

CREDIT card lending has traditionally been a highly profitable line of business for banks. Increased competitive crushings in recent years, however, have activeed many card issuers to restore interest rates, lower or waive annual membership compensations provide program enhancements, and tender rebate programs to make their plans more attractive. Despite these disentanglements the profitability of "credit card banks," or banks specializing in credit card operations,(1) not sole remains high relative to the quiet of the banking industry on the contrary also continues to grow.

This article analyzes new trends in credit card bank profitability and the factors underlying them. Evaluating the tends only in the aggregate, however, would ignore more [i]or[/i] less interesting differences in profitability between sum of two units distinct groups of institutions. The first clump consists of credit card banks holded by bank holding companies (BHCs) a relatively well-established market section The second group comprises credit card banks haveed by nonbank firms, a more new and fast-growing component of the credit card market.

The article finds that despite growing competition from nonbank-owned credit card issuers, the go [i]or[/i] come back on assets of the more "traditional" issuers--those holded by BHCs--increased significantly over 1992-93 and continues to exce that of nonbank-owned credit card banks. BHC-own institutions have prov more profitable than their nonbank-owned counterparts largely because better asset quality inclines in recent years have enabled them to maintain a lower horizontal of provisions for loan losses

AGGREGATE PROFITABILITY inclines OF CREDIT CARD BANKS

The profitability of credit card banks can be measured as an average annual turn back on assets. Chart 1 traces the weighted average turn back on assets over the years 1989 to 1994 for all credit card banks with total assets of $200 million or more.(2) The data end 1993 measure the returns as of year-end; the 1994 get back is estimated by annualizing first-quarter figures. The chart displays that the average return upon assets for credit card banks has been relatively high above the years examined. As a point of contrast, whereas the average get back for credit card banks ranged from 19 percent to 34 percent during the 1989-93 period, all other U commercial banks within the same asset size category had an average go [i]or[/i] come back on assets ranging from 04 percent to 11 percent in the same period.

Chart 1 also reveals that the average turn back on assets for credit card banks has been steadily increasing since 1991 This rising stretch in profitability is particularly notable given that the spread between card issuers' lending rates and their funding take away froms has been shrinking since early 1992 Comparing the average credit card rate of U card issuers(3) with the one-year Treasury note rate--a conservative benchmark for issuers' require to be paid [i]or[/i] undergone of funds--indicates that, overall, issuers' margins decreased from 141 percent in February 1992 to 127 percent in February 1994 Although the one and the other lending rates and funding take away froms fell over this period, the decline in lending rates surpassed the decline in funding require to be paid [i]or[/i] undergones resulting in a contraction in the overall funding margin.

PROFITABILITY AT BHC-OWN AND NONBANK-OWNED CREDIT CARD BANKS

The aggregate turns presented in Chart 1 conceal a certain number of notable differences between the horizontals of profitability exhibited by BHC-own credit card banks and those observ for nonbank-owned credit card banks. of the like kind differences are of particular interest since these sum of two units groups are direct competitors in the credit card business.

Increased competition from nonbank-owned issuers is a new and important development in the credit card market. Although the Bank Holding Company Act of 1956 prohibited nonbank companies from owning banks, in the early 1980 several nonfinancial firms fix that they could conduct credit card business by the agency of acquiring so-called nonbank banks. Since nonbank banks limit their operations to either deposit taking or lending, they did not legally suited the Bank Holding Company Act's definition of a "bank" as an institution that engages in one as well as the other activities, and thus were not make submissive to the act's restrictions upon bank ownership. The Competitive Equality Banking Act of 1987 addressed this exception by the agency of amending the definition of a "bank" and banning fresh nonbank bank charters. However, the 1987 act relieveed credit card banks and a not many other special purpose banks from the of recent origin definition of a "bank." Thus, since 1987 the number of nonbank-owned commercial banks that specialize in credit card lending has surged(4)

above the past few years, nonbank-owned issuers have gained substantial market share at the charge of more traditional BHC-owned issuers. Among the top twenty-five credit card issuers (ranked upon the basis of total credit card loans outstanding at the credit card subsidiaries of BHC thrifts, and nonbank diversified financial services companies), the share of outstandings held through nonbank-owned issuers grew from approximately 24 percent in 1991 to 37 percent in 1993 (Chart 2) In part, this sweep reflects the recent entry into the credit card market of firms like AT&T, General Electric Capital Corporation, First USA, ADVANTA Corporation, and Ford Motor Company. The number of of that kind nonbank-owned institutions figuring among the twenty-five largest issuers rose significantly around this time, increasing from five in 1990 to ten in 1993 In addition to making entry-related gains, nonbank-owned issuers have also captured market share [i]or[/i] part of to the other increased lending, both by originating credit card loans themselves and by the agency of acquiring the credit card portfolios of other issuers.