U.S. Card Charge-Off Rates Improve In Q3, Holiday Season Likely To Lead The Figure Higher In Q4

by Trefis Team
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Card charge-off rates across the industry fell in Q3 2017 after remaining elevated over the first two quarters of the year, and the largest U.S. card lenders benefited from this trend to report a sequential decline in their card loan charge-offs. While Capital One continues to report a fairly elevated charge-off figure, American Express, Bank of America and Discover stand out with rates that are well below industry average.

We maintain a $75 price estimate for Discover’s stock, which is slightly above the current market price.

Individual charge-off figures above are taken from the latest quarterly SEC filings for these card issuers. The weighted average charge-off rate represents the average card charge-off rate for these card issuers as weighed by their outstanding card balances. The average figure for the U.S. card industry is taken from data compiled by the Federal Reserve Bank of St. Louis here.

The table below details the trend in card charge-off rates for these card issuers over the last five quarters. The red-to-green shading across a row should help identify trends in card charge-off rates for a particular lender over this period. The sharp increase in the charge-off figure across lenders over the last three quarters is clearly seen here. That said, the weighted average charge-off figure for these lenders remains lower than the industry average.

The charge-off rate is widely used as a parameter to gauge the quality of a lender’s loan portfolio, as it represents the proportion of loans which the lender is forced to write off for a given period. A lender with a higher charge-off rate historically is likely to see a larger hit in profitability in the event of weak economic conditions, as it usually indicates more relaxed lending standards. On the other hand, lenders that follow strict lending guidelines are expected to see lower loan charge-offs compared to their peers.

Historically, American Express has enjoyed the lowest card charge-off rates among all card lenders in the U.S. thanks to its policy of focusing on affluent clients, as this acts as a protection against loan losses. Discover also has lower-than-average charge-off rates, largely due to a selective card lending policy. At the other end of the spectrum is Capital One, with a charge-off rate above 5% for the first two quarters of the year.

That said, the recent trend of elevated charge-off rates across the industry was largely expected, because card loss figures are normalizing from the record lows they reached over 2014-15. We believe that the decline in Q3 2017 was due to seasonally lower card usage over the period, and expect the figure to rise marginally in Q4 when the holiday season boosts overall card usage in the U.S.

The impact of changes in card charge-offs on our estimate for Discover’s share price can be understood by making changes to the chart below, which captures the bank’s card loan provisions as a percentage of its total outstanding loan portfolio.

See full Trefis analysis for U.S. Bancorp | Wells Fargo | JPMorgan ChaseBank of America | Citigroup | Capital OneAmerican Express | Discover

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