Nu Holdings Ltd. said artificial intelligence features it started to deploy in Brazil helped the fintech increase credit-card limits for some clients, boosting third-quarter revenue and profit. Nubank, as the company is known, said its portfolio rose 42% to $30.4 billion through September, according to financial statements Thursday. Chief Financial Officer Guilherme Lago said AI […]
Bloomberg News
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After struggling for the last two years, credit card borrowers appear to be turning the corner.
Late payments on credit cards aren’t rising much and are even declining at some major card companies, according to recent data. And while cardholders’ balances are continuing to rise, their growing incomes mean they’re better able to keep up with payments.
There are plenty of ways for things to go wrong. Interest rates on credit cards are at their highest levels in decades. Inflation continues to take a bite out of consumers’ wallets. Younger borrowers and those with lower credit scores are struggling more. And the economy could always falter, even if Friday’s job report is a sign of health.
But at the very least, the credit card industry is no longer showing widespread deterioration, reducing the risk that banks will absorb big losses by charging off loans from troubled borrowers.
“There’s reason to be cautiously optimistic,” said Susan Fahy, chief digital officer at the credit-scoring company VantageScore.
As of April 2024, some 1.35% of credit card balances had late payments of at least 30 days, according to
Credit card metrics were unusually healthy in 2020 and 2021, as home-bound cardholders spent less and paid down their credit cards with their savings and stimulus funds. Later, as delinquencies started ticking up again, industry executives described the worsening they were seeing as “normalization.”
If late payments persist, banks eventually charge off loans from seriously delinquent borrowers. Charge-off rates have gone a little past normal, but not by too much. Banks charged off some 4.4% of credit card loans in the first quarter, a bit more than they did before the pandemic but still far less than their 2009 level of 10.5%.
Consumers are “managing” through today’s inflationary environment without showing big signs of wobbling, according to Brian Wenzel, chief financial officer at the credit card issuer Synchrony Financial. The average consumer is “pulling the economy forward,” Wenzel said Monday in remarks at an industry conference, even if Americans are shopping for cheaper products or pulling back on travel.
“We see general stability in their delinquency stages,” Wenzel said, adding that his company’s charge-offs peaked in April.
Patrick T. Fallon/Bloomberg
Synchrony’s charge-off rate fell to 6.5% of its loans in May, down from 6.7% in April, according to monthly data the company released Monday. The company expects its charge-offs to be lower in the second half of the year, partly because fewer customers are running late on their payments. Delinquencies at Synchrony fell for the third month in a row.
Other credit card executives have also been optimistic in recent months.
“The U.S. consumer remains a source of strength in the economy,” Capital One Financial CEO Richard Fairbank told analysts in April, chalking that up partly to a job market that “remains strikingly resilient.”
Delinquencies were still rising at some major banks, including JPMorgan Chase and Bank of America, at the end of the first quarter. New data will be released next month as the industry reports second-quarter earnings.
But there are ample signs of an “inflection in delinquencies across the consumer credit space,” Jefferies analyst John Hecht wrote in a note to clients this month, pointing to improvements in credit cards, auto loans and personal loans.
“Broad data supports the notion that the credit cycle is turning,” Hecht wrote, a factor that may drive up credit card companies’ stock prices as investors gain confidence that the environment is improving.
Even if the economy takes a negative turn, lenders have set aside enough reserves to cover loan losses under a “moderately worse employment situation,” Hecht wrote.
Mark Narron, a Fitch Ratings analyst who covers banks, said that some deterioration may still occur in the coming months as metrics continue to find their post-pandemic normal. That’s particularly the case among lenders who took on riskier borrowers when conditions were healthier.
Younger credit card borrowers and those with lower incomes have
To see significant improvements, either the number of maxed-out borrowers must decline or their delinquency rates must fall, according to the New York Fed economists.
“So far, the data show neither of these trends moving in the right direction,” they wrote. “If these trends continue and other factors influencing delinquencies remain the same, credit card delinquencies are likely to continue to rise.”
Polo Rocha
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Four years ago, George Floyd was choked to death by a police officer after trying to use a possibly counterfeit $20 bill at a Minneapolis convenience store. Widespread outrage about the killing spurred the largest U.S. banks to vow to do their part to fix the inequalities in the American financial system.
JPMorgan Chase announced it would spend $30 billion to address social and economic inequities. Bank of America and Citi each pledged $1 billion. Wells Fargo promised $450 million, U.S. Bank $116 million.
Today, the banks say they’ve put this money to good use.
JPMorgan Chase says it’s invested $30.7 billion in racial equity initiatives, mostly in the preservation and construction of affordable housing. Citi says it has provided growth capital and technical assistance to minority depository institutions, invested in Black-owned businesses and affordable housing and is working to
Wells Fargo has committed $150 million to a special purpose credit program. Bank of America says it’s committed $1.2 billion to advance economic opportunity, focusing on jobs, affordable housing, small businesses and health equity. U.S. Bank says it has stepped up lending to minority owned small businesses and mortgage down payment assistance in underserved communities.
Despite the tens of billions of dollars banks have spent, the racial wealth gap has actually widened over this time period.
According to the Federal Reserve Board’s
And while 72.7% of white Americans own their own home, only 44% of Black Americans do, according to the
“The reality is, white America and people of color America are living in two different financial realities,” said Silvio Tavares, CEO of VantageScore. “And as Americans, we know that that’s not sustainable. Putting aside the moral aspects of it, just as a business proposition, that’s just not sustainable.”
Aaron Long grew up in the 1980s in St. Louis.
“In the inner cities, you had the drugs, the crack, all of that stuff,” said Long, who is head of client advisory and strategy at Zest AI, a technology company with an AI-based lending platform. “Wealth affects two important things on the household level. It affects education and the environment that you’re in. Without being able to improve those, you have this continuous cycle.”
People will sometimes blithely say that kids born in disadvantaged neighborhoods just have to pull themselves up by their bootstraps, work hard and overcome their circumstances. But Long says this cliche is not a realistic prescription to improve the lives of children growing up in poverty.
“It’s super tough to get out,” he said. “You don’t have the skills to do it. You don’t have the education to do it. You don’t know where to go to do it.”
Kids who grow up in poor inner cities have “small dreams,” Long said, “because that’s the only thing that you know how to dream about — you don’t see anyone in your family that you can pick up the phone and say, ‘How do I start a business?’”
And it’s been this way in the United States for decades. In the mid-1960s, the average Black household was making around 57 cents per dollar compared with the average white household, according to Long. Today it’s around 62 cents.
“You can see over the generations that the wealth gap is still there,” Long said. “If we continue with that trajectory, it’ll be well over 500 years before we’re able to have no wealth gap at all.”
Racism and systemic issues still prevent African Americans from getting approved for credit, said Tonita Webb, CEO of Verity Credit Union in Seattle.
“It is so traumatizing for some to even just walk into a bank to apply, because of their past experience,” she said. “I know people who won’t do it because they think the financial services industry is not for them because of all the nos that they have received.”
Some of those nos may have been for sound creditworthiness reasons, she said, but banks frequently also don’t take any steps to help move these applicants forward. Others are rejected “just because that’s been the history of our financial services industry,” Webb said.
Wole Coaxum left his job at JPMorgan Chase and started a fintech called Mocafi after Michael Brown, an 18-year-old Black man, was shot and killed by a police officer in Ferguson, Missouri, in 2014. A grand jury subsequently declined to indict the officer, and a firestorm of protests followed. Mocafi works with governments and nonprofits to provide financial services to underserved consumers.
“Watching the folks in Ferguson in the streets protesting, for me, was an instance of people fighting for social justice, but also a need for economic justice and a lack of access to opportunity,” said Coaxum. Their lack of resources was part of the reason they were in the streets, he thought.
In Coaxum’s view, the racial wealth gap “is deeply rooted in the bones of this country, and I’m reminded of it regularly.”
For instance, President Franklin Delano Roosevelt’s G.I. Bill was designed to help World War II veterans obtain affordable mortgages guaranteed by the Veterans Administration. But the loans were made by white-run financial institutions that rarely provided mortgages to Black people.
As a result, the vast majority of the benefits went to white service members. In one example, “fewer than 100 of the 67,000 mortgages insured by the GI Bill supported home purchases by non-whites” in the New York and northern New Jersey suburbs, historian Ira Katznelson wrote in the book “When Affirmative Action Was White: An Untold History of Racial Inequality in Twentieth-Century America.”
“The biggest economic driver of the 20th century that enabled us to become a superpower post World War II excluded Black people,” Coaxum said. “From a historical lens to a modern lens, there is a consistent thread of Black folks having less access to wealth building opportunities,” Coaxum said.
The racial wealth gap is a huge, multifaceted problem with experts disagreeing over how to best close it. Some consider increased home ownership the answer, because of all the socioeconomic benefits that stem from that. Others focus on improvements in wages, basic income, increased savings or short-term loans that people can turn to in a pinch and, say, get new tires for their car so they can keep going to work. Others still think artificial intelligence will help. Many believe it will take a concerted effort by the banking industry, fintechs and government.
“It is a question I grapple with all the time,” Webb said. “And here’s where I land. We can make a difference for our small community and our small membership. But I think to make a difference for the overall wealth gap, the financial services industry has to make a decision to provide programs to undo systemic practices and policies and use technology, such as AI, that looks at other things besides the credit score, which we know is systemically created to have an advantage for some and a disadvantage for others.”
Financial services firms could provide education to help people understand the financial system and how to navigate it, she said. And products need to be developed for the purpose of shrinking the wealth gap.
If more than 70% of white people own homes and only 40-plus percent of Black people do, “there has to be something specifically done to close that gap,” Webb said.
It’s not enough for the government to put out a policy that companies can no longer discriminate, Webb said. There are already laws, including the Fair Housing Act of 1968 and the Equal Credit Opportunity Act, that prohibit lending discrimination based on race — and yet these issues persist.
“We’ve had decades and years of discrimination,” she said. “We also have to create programs that give access where folks didn’t have access before in order to shrink that gap. We’ve got to remember there are underserved communities that are way behind, so they’re playing the catch-up game.”
Coaxum sees the racial wealth gap as a market failure that would be best solved in partnership with the government. Banks are driven to target more affluent — and in general, white — customers. These consumers tend to have more assets that the banks hope to help them invest. Originating one larger mortgage for a more expensive home is seen as less of a hassle than making several smaller loans for more modest houses. Credit decisions tend to be easier, and lenders feel more assured they will be paid back.
“If left to the private sector, it’s going to come along in a drive towards efficiency that doesn’t necessarily have a wide net that is systematic, sustainable and strong enough to close the wealth gap in our communities,” Coaxum said.
Until local, state or federal government does something, “we’re just going to have a series of really smart people building really interesting companies, but may not have the scale that’s required to really meaningfully shift the needle,” Coaxum said.
One thing governments could do is rethink how they get resources to the unbanked and underbanked of their communities and work with partners to do this digitally, rather than through checks and benefits cards, Coaxum said.
Coaxum’s fintech, Mocafi, for instance, works with New York City to provide immigrants with debit cards they can use to receive help.
New migrants to New York are processed at the Roosevelt Hotel in Manhattan. They used to receive food deliveries every three days but this inevitably meant that uneaten food was thrown out, making the effort expensive and wasteful. With Mocafi, the city is testing giving immigrants a preloaded debit card so that they can buy their own food. According to Coaxum, this new system is a third of the cost of having food delivered and gives participants more choice in what they eat. It also puts dollars into the community and reduces waste, he said.
Tavares’ family came to the United States from Angola when he was 10 years old. His mother was a physician and his father was a politician turned professor. His parents found a house they liked in a safe neighborhood with good public schools. His father went to the local savings bank to apply for a mortgage.
“He fully anticipated that he would be approved because he had a Ph.D.,” Tavares, VantageScore’s CEO, recalled. “He was a professor at a prestigious university, and he had money in the bank.”
The application came back a couple weeks later: Denied. When his father walked into the bank branch to ask why, he was told it was because he was an immigrant and didn’t have a credit report. Tavares’ parents talked about this a lot at the kitchen table.
“I was just starting to learn English, but I kept on hearing this weird word, ‘mortgage,’” Tavares said.
It’s degrading and discouraging to be declined for credit the way his family was, Tavares said.
“When you say to somebody, you are not creditworthy, what they often focus on is not the credit part, but the banker saying, ‘You are not worthy,’” he said.
That stigma is part of the reason why African Americans and Hispanics often are suspicious of the banking system, “because they have a relative or somebody that they know who was very hardworking, very focused on savings, but then when they applied, they got denied,” Tavares said.
In Tavares’ case, his father decided to use the family’s entire savings to buy the house, against his mother’s objections that if any one of them got sick, the family would be ruined. His father said the family would build a credit report over three or four years, refinance and get the money back.
“They were able to do that, and that’s what paid for my engineering degree, my MBA and my law degree,” Tavares said.
Starting in the fourth quarter, the Federal Housing Finance Agency will require lenders to use VantageScore 4.0 scoring models in order to sell mortgages to Fannie Mae and Freddie Mac. VantageScore 4.0 uses machine learning and trended credit data to assess the creditworthiness of people who have limited credit history. Trended data shows a person’s pattern of financial behavior over a set period of time, generally about 24 months. Tavares estimates that this will enable 4.9 million new borrowers to become eligible for a mortgage and 2.7 million will be able to easily get a new mortgage because their credit score will be above 620.
Everyone who is creditworthy should have access to a mortgage, which is the key to unlocking financial stability, Tavares said.
Christian Monterrosa/Bloomberg
“If you own a home, all sorts of great things flow from that: better access to public schools, a financial security cushion when times get rough, because you can dip into your home equity,” Tavares said. “Eventually when kids finish public high school, they can go on to college and you can tap your home equity to finance that.”
Besides mortgages, access to other types of credit, such as an auto loan, can make a significant difference in closing the racial wealth gap, experts said.
“Being able to access a car directly translates into better opportunities to tap new work opportunities,” Tavares said. “It gives you the ability to find the best job in your area, the one that pays the highest wages, and that translates directly into increased wealth and closing that racial wealth gap.”
Solo Funds, a Los Angeles fintech that hosts a platform on which people in disadvantaged communities make small loans to one another, is closing the racial wealth gap for its members, according to co-founder Rodney Williams.
Solo Funds’ borrowers have saved nearly $30 million in fees they would have paid had they used a credit card, Williams said. And people who lend on the platform are seeing their money grow for the first time in their lives, he said.
Solo doesn’t have the budget to do much marketing, he said.
“But if you go into the inner city community, if you go to the barber shop and you have a flat tire, someone’s going to say, use Solo,” Williams said. “That’s just the word on the street.”
Some blame the banking industry’s reliance on the FICO score and traditional credit history data for the persistence of the racial wealth gap.
“There’s not enough data in the traditional credit bureau system to give lenders confidence about how to lend to segments that are not well represented in the credit bureau file,” said Misha Esipov, founder and CEO of Nova Credit. “To better serve those segments, you need to have a platform which includes the infrastructure, the analytics and the compliance to better understand those segments.”
Nova Credit’s platform provides credit bureau data (including from other countries), bank account transaction data and rent payment history as well as analytics and income verification.
“Our belief is that when you have more data and more visibility, you can responsibly serve these segments that the traditional credit bureau model just doesn’t quite capture,” Esipov said.
One in five Americans have no credit score because they don’t have enough credit history to be scored, said Brian Hughes, former chief risk officer at Discover.
Yet 95% of American adults have a checking account, “which is a great source of data and payroll data,” Hughes said. “There’s light that can be brought to these customers that don’t have a credit score. And once it’s brought, then adoption can happen and if adoption happens, greater inclusion happens,” he said.
Webb at Verity Credit Union agrees the FICO score is not sufficient to determine creditworthiness. FICO scores are calculated using data in credit reports that is grouped into five categories: payment history, amounts owed, length of credit history, new credit and credit mix. (FICO also offers UltraFICO, a model through which consumers opt to have a bank incorporate an analysis of their bank account data into their score. VantageScore offers a similar product, VantageScore 4plus.)
“A FICO score really only looks at five or six different pieces of data,” Webb said. “There’s lots of other ways that we can get more information about somebody’s character. Someone shouldn’t have to pay for the rest of their lives for maybe a blip in their lives.”
For instance, a consumer could get a cancer diagnosis that impacts their ability to work for a time, she said.
“That is life and that is part of credit,” Webb said. “You can’t make somebody pay for this for 10 years. The situation can improve and no longer be a mitigating factor to how they’re going to pay their bills moving forward.”
Banks’ and credit unions’ efforts to use alternative data, such as checking account data, to inform lending decisions is a step in the right direction, in Coaxum’s view.
“But you can’t forget that check cashers and pawn shops and payday lenders are serving this customer, and those data elements are not in the algorithms,” he pointed out.
If algorithms had data from these sources, banks would have “a pretty good shot at maybe reimagining lending for this population,” Coaxum said. “That dataset would allow you to come up with some more interesting and creative lending solutions that you could feed the algorithms that might open the market up.”
While check cashers and pawn shops don’t report repayments of loans to credit bureaus, they do sometimes report when people don’t repay, creating a double negative for people who don’t have access to bank branches. The same is typically true for rent payments — the landlords that do report to credit bureaus tend to only report missed payments, not payments.
Some see hope in a movement to get landlords to report tenants’ rent payment to the credit bureaus. This could give people who can’t afford to purchase a home a way to build a credit history and work toward possibly obtaining a mortgage.
Esusu, for example, facilitates the reporting of on-time rent payments to credit agencies. It partners with government-sponsored housing enterprises like Fannie Mae and Freddie Mac.
The company says it has unlocked billions of dollars in credit and facilitated access to loans, mortgages and student loans for individuals who were previously underserved.
“The tangible increase in credit scores among renters and the creation of new credit tradelines demonstrate progress in bridging the racial wealth gap by providing financial opportunities to those who were previously credit invisible,” said Samir Goel, co-founder and co-CEO of Esusu.
Some bank and fintech leaders think AI could help close the racial wealth gap.
“We are in the early stages of assessing the transformative power of AI,” said Carolina Jannicelli, head of community impact at JPMorgan Chase. “We do believe that advancements in technology, as has been the case throughout history, have the potential to advance our economy and positively impact communities.”
Since Verity Credit Union began using Zest AI in lending decisions last year, it has seen a significant increase in the number of approvals for protected status applicants, including a 271% rise for individuals aged 62 and older, a 177% increase for African Americans and a 375% uptick for Asian Americans and Pacific Islanders. Approvals for women increased by 194% and by 158% for Hispanic borrowers.
The $809 million-asset credit union tries not to decline people without helping them get to a yes, Webb said.
“Not everyone has been told how to navigate finances,” Webb said. “We also understand, especially for traditionally underserved individuals, there’s a lot of trauma around finances. So dealing with those issues that may be present for folks helps get them in the position of a yes for some of the loans.”
The credit union is using Zest AI software to make unsecured auto loans, credit cards and personal loans. It meets quarterly with Zest’s data analytics team to review data on the results.
Tia Narron, chief lending officer at Verity Credit Union, considers a borrower’s current ability to repay the loan a much stronger indicator than if the person’s credit history indicates a brief past financial challenge.
The company hopes to use this technology beyond lending, for things like preapprovals and account opening.
As the many recent examples of inaccuracies, hallucinations and bias in generative AI models show, AI is obviously not a cure-all.
“I believe that technology is an accelerant, not necessarily a problem solver,” Coaxum said. “It could make the problem worse if we’re not careful.”
The use of AI to make decisions doesn’t equate to treating people equally, Coaxum said, because AI models are dependent on the datasets they are fed. And where banks aren’t serving minority communities, or aren’t serving them much, they lack the necessary data.
According to the Federal Reserve Bank of Philadelphia, since the onset of the COVID-19 pandemic, the total number of U.S. bank branches has declined by 5.6%. The number of so-called banking deserts — neighborhoods where no banks have a physical presence — has increased by 217, and the population living in banking deserts has increased by more than 760,000 people.
A consequence of under-serving minority communities is that when banks are building datasets to inform the algorithms they use for lending decisions, they don’t have a large enough data sample to be able to really understand payment behaviors of these customer bases.
“It becomes, in my mind, challenging to have a robust lending framework,” Coaxum said. “Not because they’re not good people, not because they don’t want to, they just don’t have the customer base.”
There is a chance AI could perpetuate discrimination, resulting in further unequal treatment of racial minorities, Goel said.
“To mitigate the risk of worsening the racial wealth gap, we have to ensure that AI systems are ethically developed, regularly audited for biases, and are regulated to prioritize fairness and inclusivity in financial services,” he said.
AI systems used in commercial settings are typically trained on past human-generated data, pointed out Daniel Susskind, economics professor at King’s College London, senior research associate at the Institute for Ethics in AI at Oxford University and author of the book “
“So a system that determines who gets a job interview is in part trained on the sorts of decisions that human interviewers have made in the past,” Susskind said. “The great risk, and we see this in practice, is that the sorts of biases that people exhibit in human decision making simply get replicated and in some cases magnified by these systems, which are learning how to act from human experience.”
When AI models do demonstrate biases after being trained on human data, “quite often they tell us interesting and uncomfortable things about ourselves,” Susskind said. “They hold a mirror up sometimes to our own biases, some of which we didn’t know that we had.”
In a paper entitled, “
“Models are trained on historically biased data,” said Salinas de Leon. “So when you put bias in, you will get bias out on the other side. If we continue on this path without properly reviewing the models and the training data they are given, then we’ll definitely increase the gap because we’re unaware of all the biases that they were trained on.”
On the other hand, algorithms have less intentional bias than humans, Nyarko pointed out.
“Algorithms don’t have animus,” he said. “In the law, we care a lot about, do you have discriminatory intent? When algorithms make decisions, they don’t have the intent to hurt minorities. They might do that as a byproduct, but for humans, there can be specific intent or subconscious biases.”
According to Laura Kornhauser, founder and CEO of Stratyfy, transparency is key for a fintech providing AI-based underwriting and fairness models. Many models are tested after they’ve made decisions, which can make it hard to revise the models, she said.
“That ends up being really essential in this bias question,” Kornhauser said. “If I’m just feeding the data we have into a machine, even if I’m doing some smart things around dual optimization and adversarial biasing, if I can’t see inside the guts of the machine and make changes to how it’s working, then the risk of that bias that exists in the data being propagated forward is very real and very meaningful.”
Stratyfy is working with Underwriting for Racial Justice on a pilot with several lenders to drive greater fairness and access within BIPOC communities.
“That ends up being such a hard piece of really moving that racial wealth gap as it relates to availability of fairly priced credit,” Kornhauser said. “So many lenders are so set in the way they’ve done things before.”
The racial wealth gap is part of an overall wealth gap in America. According to Advisorpedia, more than 70% of wealth in America is owned by 10% of families. The gap between the haves and the have nots isn’t new, but it has been growing.
“When you look at 74% of Americans, according to our Inside the Wallet report, living paycheck to paycheck, you realize very quickly that it’s just everybody you know,” said Michael Woodhead, chief commercial officer of FinFit.
“Despite the best efforts of organizations like ours that are focused on financial wellness solutions and services, this problem’s only gotten worse, and it was exacerbated by macroeconomics that came out of the pandemic,” Woodhead said.
In his view, the financial services industry in this country has always been set up to serve people who have extra money at the end of the month, and they take that extra money and help them make it more money.
“As a result, if you don’t have extra money at the end of the month, the financial services industry really doesn’t have much to offer you,” Woodhead said.
The way most Americans who are living paycheck to paycheck solve problems of lack of liquidity is with debt services that they can’t afford, which creates even more problems, Woodhead said.
“But financially healthy people, even if they don’t have savings to speak of, have access to affordable credit,” Woodhead said.
FinFit works with employers to provide financial services to individuals who are underserved by the marketplace today, he said. It offers access to credit for emergencies or for long-term debt consolidation, with interest rates of 7.9% to 24.9%. Applicants don’t need to have a FICO or VantageScore score, and instead, FinFit relies on a machine learning algorithm to price its loans.
The most important thing FinFit offers is an emergency savings solution, Woodhead said. “So the next time I have a financial emergency, I have an option: I could use credit, or I could use my own emergency savings account that I have built up over time,” Woodhead said.
The traditional financial services industry has been paternalistic in telling people they’re spending too much money — if they would just spend less than they make, they wouldn’t have these problems, Woodhead said.
“That’s the way we have tried as an industry to solve this problem for about 30 years: by shaking a finger at people,” Woodhead said.
Banks that don’t try to address the racial wealth gap face an existential threat, Tavares said.
“The demographics of our society are changing and technology has to keep pace in order for the lending system to continue to be resilient, growing, fair and free from risk,” Tavares said. “What people don’t often think about is there’s a significant cost to not updating and innovating the technology for lending.”
Some lenders hold that what worked 30 years ago or 20 years ago is tried and true and will continue to work today.
“There’s actually a risk for that because in the America that we have today, the borrowers are not the same as 30 years ago,” Tavares said. “And yet you’re using this old, outdated technology, so there’s a risk also of not innovating.”
Many banks are making the decision to include more updated and inclusive technology because it’s a business imperative in a country that’s rapidly becoming majority-minority demographically, he said.
“If you look at a state like California, 58% of the population is Asian American, Hispanic American, and African American,” Tavares said. “If you can’t lend effectively to those people because you have outdated technology, that’s a business problem, that’s a profitability bottom line problem,” he said.
Penny Crosman
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Andy Dean Photography/Andy Dean – stock.adobe.com
The 11
The Home Loan bank boards of directors establish dividends (expressed as a percentage of capital stock) and must act in the fiduciary interests of members. Amounts not so paid flow onto the Home Loan banks’ balance sheets as retained earnings, where (with capital stock) they provide a buffer against the various risks assumed by the banks and protect the par value of the stock.
Home Loan bank capital has unique characteristics relevant to dividend decisions. First, the value of each share is fixed at $100 and cannot appreciate. Second, there is no secondary market in Home Loan bank shares, which consequently are illiquid. Third, members have limited claims on ownership of retained earnings and sometimes surrender them without compensation. Finally, each bank guarantees the debt obligations of the others in a “joint and several liability” arrangement.
These facts imply that the
Weak property rights erode capital values in this cooperative setting, especially the retained earnings component. Members realize the full value of claims on retained earnings only if a Home Loan bank is liquidated, an extremely unlikely event. Once retained earnings are sufficient to buffer against relevant risks, members should prefer owning capital stock. Stock has stronger property rights because it promises periodic returns and can be redeemed in designated situations.
So, what do the Home Loan banks actually do when it comes to the dividend/retained earnings tradeoff? All 11 Home Loan banks have similar business models because their regulator, the Federal Housing Finance Agency, makes it so. Each must satisfy a requirement that the sum of advances (loans to members) and mortgage purchases exceed 70% of debt obligations. At year-end 2023, the average ratio was 77% and seven of the banks were less than two percentage points from this mean. Consequently, it’s reasonable to expect that the bank boards would follow roughly similar strategies in rewarding members with capital distributions. The data strongly suggest otherwise.
Data from the Federal Home Loan Banks Office of Finance indicates that the average payout ratio (dividends/net income) at the 11 Home Loan banks over 2022-23 was 46.7%, down from an average of 60% over the prior four years. The 2023 payout range was large, with the high of 67.8% (New York) more than doubling the low at 33.8% (Dallas). Rationalizing these sharp differences is difficult, given the similarity in cooperative business models. A payout ratio of less than 50% signals board preferences for retained earnings over dividends.
Over the last decade total Home Loan bank retained earnings grew 129% to a level of $27.9 billion, while capital stock holdings increased only about 34%. Retained earnings ranged from almost $5 billion (Chicago) to $1.4 billion (Topeka), again an enormous difference across a set of similar institutions. Asset sizes vary across the Home Loan banks and over time will influence dividend declarations. But payout ratios have no relation to bank size, and the amount of each bank’s retained earnings reflects a very long history of payout decisions.
All the Home Loan banks estimate retained earnings required to buffer against a variety of risks in extremely stressed environments. Seven of the banks disclosed these “targets” in 2023 annual reports and they vary sharply. The average ratio of actual retained earnings to the target levels at the reporting banks was 118%, with an enormous low-to-high range of 21% to 275%. There are no regulations addressing retained earnings in the capital structure of the Home Loan banks, but FHFA requires that capital stock be at least two percent of assets to assure that members have sufficient “skin in the game.” And in the system’s 90-year history, there has never been a case in which a Home Loan bank defaulted on its promise of par redemption of stock.
Property-right principles suggest that capital stock should exceed retained earnings if Home Loan bank boards are behaving in their members’ interests. Indeed, there was 60% more capital stock than retained earnings on the banks’ combined balance sheets at the end of 2023. But the range of capital stock/retained earnings outcomes is remarkably large, from a high of 2.92 (Cincinnati) to a low of 0.57 (San Francisco). Contrary to what property rights arguments imply, two banks had more retained earnings than capital stock. What accounts for the enormous, and anomalous, range of capital distribution results across the Home Loan banks in both the short and long runs? The answers cannot be found in any Home Loan bank-produced documents.
Home Loan bank boards (and CEOs, who play key dividend decision roles, but do not hold board seats) may be unaware of how property rights affect capital values or might discount their relevance. Or board members may apply approaches used in their companies that typically are not cooperatives. But standard “principles” for resolving dividend/retained earnings tradeoffs in a public-company setting do not apply at cooperatives like the Home Loan banks. An example concerns what one Home Loan bank cites as the potential “strategic value” of retained earnings. These funds cannot be the source of value creation discussed in MBA classes when the stock price is fixed at $100. And retained earnings are irrelevant to both the prospect and outcome of a merger between Home Loan banks for property-rights-related reasons.
So why Home Loan bank boards and their top management employ vastly different strategies of rewarding members with capital distributions remains a puzzle. The considerable amount of retained earnings on some banks’ balance sheets reflects a history of “withheld dividends” that, given the relevance of property rights, may not have been in members’ economic interests. If the Home Loan banks were operating in a competitive environment, it seems highly unlikely these sizable differences in payout strategies could survive. Since directors associated with member organizations constitute a majority of Home Loan bank boards, they especially would seem to have a strong incentive to resolve the puzzle.
Donald J. Mullineaux
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Though
The Charlotte, North Carolina-based bank reported that its net charge-offs increased by more than 80% from the same period last year, from $807 million to $1.5 billion, as consumers struggled to pay off their credit card debt and turbulence in the commercial real estate sector continued. To manage the rising credit risk,
“All of this is still well within our risk appetite and our expectations, and it’s consistent with the normalization of credit we’ve discussed with you in prior calls,” Chief Financial Officer Alastair Borthwick said Tuesday on the bank’s quarterly earnings call.
The company provided more information about its exposure to office loans, which has been a hot topic among regional banks that tend to have bigger office loan portfolios.
Some $7 billion of the company’s office loans, or roughly 41% of its portfolio, are slated to mature this year. About half that figure will mature in 2025 and 2026, which implies the losses have been “front-loaded and largely reserved,” Borthwick said.
“We’re using a continuous and thorough loan-by-loan analysis, and we’re quick to recognize impacts in the commercial real estate office space through our risk ratings,” Borthwick said on the company’s earnings call. “As a result … we’ve taken appropriate reserves and charge-offs.”
Last month,
Banks’ property loans have faced increased scrutiny in recent months, though most of the focus has been on regional lenders. Among the U.S. megabanks, Wells Fargo also reported an annual rise in charge-offs in its commercial real estate portfolio in the first quarter.
Over the next few quarters, it appears that
“Credit card losses are above pre-pandemic levels, and that’s somewhat unexpected,” Fanger said. “It’s not unique to
Despite the rise in charge-offs, Fanger described the bank’s credit performance in the first quarter as “resilient.”
During the quarter,
Yet elevated rates will
“Generally speaking, a higher-for-longer [rate environment] is probably better for banks,” he said. “The question will become, ‘Why are rates higher? What’s going on in the economy? Are we talking about inflation? Is it under control? Is it coming down?’” He went on to indicate that inflation does now appear to be under control.
Moody’s Fanger argued that
He also said that
Catherine Leffert
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After a
But bank stocks are treading lightly and may need further signals from the Federal Reserve that interest rate cuts are in the cards for this year to mount a serious rally.
Henk Potts, market strategist at Barclays Private Bank, said he sees the realistic possibility for “the Fed to start cutting rates in June,” but “the path of policy still remains very data dependent.”
The Fed on Wednesday balked at a March rate reduction but hinted cuts are coming. The KBW Nasdaq Bank Index rose more than 2% on the day. Still, while the index is up more than 20% from the lows of March 2023, when Signature Bank and Silicon Valley Bank each failed, the index is ahead just about 4% year to date.
The
The challenges came atop simmering
Bank stocks last year hit their lowest levels since the immediate shocks of the pandemic in 2020.
In recent months, however, federal data showed that inflation, while choppy, has come down dramatically. At a
Yet inflation remains above the Fed’s targeted 2% level and the job market, while strong, is not entirely rosy. Companies across technology, finance, media and other industries have announced layoffs early this year, and the unemployment rate ticked up to 3.9% in February from 3.7% the prior month. Job openings also declined.
Robert Bolton, president of Iron Bay Capital, further noted that sizable portions of recent job gains involved lower-paying positions and second jobs.
“There’s a lot of unknowns still,” said Bolton, explaining why many bank investors remain on the sidelines. “Inflation is not the one and only concern.”
On Wednesday, Fed policymakers
For the near term, however, “the path forward is uncertain,” Fed Chair Jerome Powell said during a press conference Wednesday. “We are strongly committed to returning inflation to our 2% objective.”
With a higher-for-longer rate policy, the Fed could further cool the job market and the economy. This would help to further drive down inflation, but it would not bode well for loan demand or, potentially, banks’ credit quality, Bolton said.
Employers collectively reported six-figure job gains every month last year — and again in January and February of this year. Employers added
The pace of economic growth has also eased. Gross domestic product advanced at an annual rate of 3.2% in the fourth quarter, down from third-quarter growth of 4.9%, according to the Commerce Department.
“With the U.S. economy posting two consecutive quarters of 3%-plus GDP growth, recession calls have quieted down,” said Larry Adam, chief investment officer for Raymond James.
But, he added, “there have been some warning signs over the last few months that suggest growth could slow. … While the labor market is on solid footing, cracks are forming.”
The Atlanta Federal Reserve projected first-quarter GDP growth of just over 2%.
Piper Sandler analyst Scott Siefers said that the latest weekly Fed data, covering the week that ended March 8 for the banking industry, showed deposit stability but loan growth of just 2% from a year earlier. Lending, he said, “is simply bobbing around a very weak level.”
From an investor perspective, Siefers added, “as the year marches on, it becomes increasingly important for bank loan growth to inflect upward to meet existing expectations” for stronger interest income and profitability in 2024.
“But realistically,” he added, “lower rates and better macro clarity may be necessary to make this a reality, reinforcing the notion of how heavily tied this group’s fortunes are to factors outside banks’ direct control.”
Jim Dobbs
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Goldman Sachs has
Sixth Street, KKR and Bayview Asset Management were part of the consortium of investors that bought Atlanta-based GreenSky for an undisclosed price, completing a deal that was initially announced last fall. The niche
GreenSky CEO Tim Kaliban said in a news release Friday that the institutional investors will bring “funding, scale and continuity” to the tech company, which also plans to deepen its long-term partnership with Synovus Financial. Sixth Street, which has more than $75 billion of assets under management, led the investor consortium and plans to help GreenSky “deepen its focus on helping grow the businesses it serves,” Michael Muscolino, co-founder and partner at Sixth Street, said in the release.
“Our investor consortium looks forward to providing the GreenSky team with the resources it needs to continue innovating and delivering industry-leading and easy-to-use solutions for its merchant network and their customers,” Muscolino said.
GreenSky was
GreenSky offers point-of-sale technology to connect home improvement contractors with consumers to make loans. The loans are housed through bank partners, like Synovus, which is building on its existing relationship with GreenSky.
Synovus CEO Kevin Blair said on the company’s earnings call in January that he expected a “sizable increase in income”
Last month, Synovus also created a chief third-party payments officer to oversee merchant services and sponsorships, tapping Jonathan O’Connor for the role.
Since its founding in 2006, GreenSky has grown its network to more than 10,000 merchants, and has facilitated more than $50 billion of commerce through nearly 6 million consumers, the company said.
Homeowner renovation and maintenance spending peaked last year, hitting $481 billion, after growing at a rapid clip since 2020, according to Harvard’s housing studies center. At the start of the home improvement heyday, banks began making moves to buy into the space.
Even last month, Synchrony Financial announced that it
While total home improvement spend has started marginally decreasing, the Harvard group still expects folks to put around $450 billion into home projects this year. Prior to 2021, that number had been hovering around $300 billion.
“Home remodeling will continue to suffer this year from a perfect storm of high prices, elevated interest rates, and weak home sales,” said Carlos Martín, project director of the Remodeling Futures Program at the Joint Center for Housing Studies, in a prepared statement.
Still, Abbe Will, associate project director of the group, said in the report that recent improvements in homebuilding and mortgage rates signal that the rate of spending will pick back up by the end of 2024.
Catherine Leffert
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When Rob Minnick needed money to fuel his betting habit, he often found it where a lot of gamblers do. He got a cash advance on a credit card.
Minnick was 18 years old when he started betting, convinced that his extensive knowledge of sports would make him a winner. The New Jersey native moved from daily fantasy sports to traditional sports betting to casino games. Eventually, he’d find himself sitting at an Atlantic City poker table while simultaneously peeking at his cell phone, where an online slot machine was spinning.
In late 2022, Minnick was in recovery from his gambling addiction when he had a relapse, which was fed by cash advances. It started with a sports bet, which led to a visit to Parx Casino in Bensalem, Pennsylvania.
By the time the 12-hour binge ended, it was close to midnight. Minnick had created so much debt that he says he had to work a second job for more than five months — and put all of his earnings into repayment — to dig out of the hole.
“With the credit cards, you know that the cash advance fee is going to be huge,” Minnick said. “And you don’t care. Because you’re convinced that you’re going to win it back.”
Over the last six years, legal gambling has spread like a weed across the United States. In early 2018, before a pivotal U.S. Supreme Court decision, only Nevada allowed sports wagering. Now 37 states, plus the District of Columbia, do. State lawmakers have moved quickly amid fears that standing pat will result in a loss of tax revenue as their residents gamble in neighboring states.
Pro sports leagues — once hostile to gambling due to fears that the integrity of their games could be compromised — have embraced the financial opportunities that gambling offers. A year ago, the first-ever sportsbook inside an NFL stadium opened at FedEx Field in suburban Maryland. And fans watching on TV are now inundated with gambling ads.
The ease of access to legal gambling has also soared, as bettors increasingly place their wagers on mobile apps, which is feeding fears that a problem-gambling epidemic is building. In 28 states, gamblers can make sports wagers from their mobile phones, according to the American Gaming Association.
At least six more states currently allow online casino games. As online gambling’s legal status has changed, so has the stance taken by many U.S. banks. Just a few years ago, the mainstream financial industry wanted nothing to do with online wagering, which generally involved offshore operations of dubious legality.
Today, gambling is a growing source of revenue for banks.
“The opportunities for them are overshadowing the risks and dangers,” said Brianne Doura-Schawohl, a lobbyist who advocates for policy responses to problem gambling.
But judging by the experiences of the United Kingdom, which has a longer history of widespread legal gambling than the United States, banks here may eventually be dragged into the burgeoning debate over how to address problem gambling.
After all, banks provide credit to bettors who have already depleted their savings. Banks are also well positioned to offer ways to make it easier for problem gamblers to protect themselves from their own self-destructive impulses. And banks hold reams of transaction data that can indicate which customers have gambling problems.
Back when legal gambling in the U.S. was happening only in casinos, and bettors needed to use cash, banks had less information about who might have a gambling disorder. That’s changed in the era of online betting.
But what is the proper role for U.S. banks in addressing problem gambling? So far, there has been little public discussion of that question. And there are no easy answers, as Minnick’s experiences illustrate.
“There was always a way to spend more money than I had when I was gambling,” said Minnick, who has been in recovery since his November 2022 relapse. “And that was even without the use of credit cards.”
Of course, specific banks can decide to ban the use of plastic to fund their customers’ gambling accounts. But cash advances offer a simple way around such restrictions, since they don’t trigger a gambling-related merchant category code. Another workaround: using a credit card to purchase a gift card or e-wallet funds.
“I can broadly say that people who are addicted to gambling develop the ability very, very rapidly to get money that they don’t have when they need it,” Minnick said.
There is also the politically charged question of how to balance harm reduction with personal autonomy.
“There’s no clear-cut solution right now that everyone would be happy with,” Minnick said.
Minnick, who will turn 25 in February, now creates content on TikTok, Instagram and YouTube in an effort to help people with gambling problems. He goes by the name Rob Odaat, which is recovery-speak for “one day at a time.” In a recent interview, he was self-reflective about the factors that fueled his addiction.
“I’m responsible for all the things that I did, and I made my life continuously more difficult to live,” he said, before noting that the next stage of his escalating problem — such as his move from sports betting to casino games — was always easy to find in the gambling apps he used.
“They put it one click away,” he said. “And it’s always very obvious where it is on the screen.”
Like others who are trying to help problem gamblers, Minnick sees an analogy between the current moment and the early days of the opioid epidemic, when addicts were often stigmatized.
“I think that over the next eight years, it’s going to go through the full cycle that opioid addiction went through,” he said.
Kyle Massi
Gambling in the U.S. is regulated at the state level. And to the extent that state laws deal with addiction, it’s typically by establishing hotlines that gamblers may call if they believe they have a problem. This approach has led to gambling ads that end with narrators rattling off various states’ hotline numbers at breakneck speed.
Gambling operators also offer voluntary tools designed to limit the compulsive behavior of players who recognize they have a problem. For example, the sports betting site FanDuel allows its users to put limits on the amount of money they can deposit in their accounts
during a given period of time. FanDuel users can also cap the size of any wager, as well as the number of hours they can spend on the site each day. Or they can exclude themselves from gambling on FanDuel altogether.
The umbrella term that’s used to describe the dominant U.S. approach to staving off the harms caused by addictive behavior is “responsible gambling.” The basic idea is to provide tools and resources to help bettors manage their time and money while gambling. Gamblers, according to this school of thought, ultimately have responsibility for their own behavior.
Supporters of this philosophy say that it’s in keeping with the American ethos of self-reliance.
“Especially in the U.S., people don’t like to be forced to do anything,” said Joseph Watkins, president of World-Pay Gaming Solutions.
Critics of the responsible gambling approach argue that it’s ineffective. Kasra Ghaharian, a senior research fellow at the University of Nevada, Las Vegas’s International Gaming Institute, said that tools that allow people to block their own participation in gambling have low uptake rates.
“All these tools are great, but no one uses them,” he said.
The United Kingdom, by contrast, is taking a more heavy-handed stance, which is generally known as “safer gambling.”
In a white paper released last April, the U.K. Gambling Commission proposed a system of “financial risk checks” for gamblers who breach certain loss thresholds. The goal is to assess whether the gambler can afford to lose the money that he or she is wagering.
Under the U.K. commission’s proposal, relatively basic checks would be conducted on bettors who record a net loss of 125 pounds in a month or 500 pounds in a year at a particular gambling operator. The operators would conduct the checks, which would look at factors such as court judgments, bankruptcies and the average affluence within the gambler’s postal code.
“These checks should take seconds to process and would be frictionless for the consumer,” the Gambling Commission stated in its white paper, titled “High Stakes: Gambling Reform for the Digital Age.” “We estimate only around 20% of accounts in a calendar year will trigger this check as most never lose this much gambling.”
The commission also proposed more intrusive checks — which would provide more insight into the gambler’s discretionary income — in cases where net losses exceed 1,000 pounds in a rolling 24-hour period. “Such rapid losses are highly unusual and exceed the discretionary income nearly all people likely have available for a day’s activity, so are therefore highly indicative of risk,” the commission stated.
Still to be determined is exactly how these more detailed financial risk checks — also known as affordability checks — would be conducted. The Gambling Commission said that it expects most of the checks could be done by contacting credit reporting agencies, which would provide an estimate of the gambler’s overall disposable income. In some cases, the individual gambler might have to provide information, but the Gambling Commission stated that it might be possible to streamline the process using open banking.
“The Commission is currently working with the financial services sector to explore how more detailed checks would work in practice,” the white paper stated.
Also up in the air, for now, is what exactly U.K. gambling operators would be expected to do with the information they gather. The white paper contemplates a range of possible responses, including applying limits to specific accounts and ending customer relationships in situations that raise serious concerns.
The proposed affordability checks have sparked controversy. Nevin Truesdale, CEO of The Jockey Club, a U.K. horse racing organization, has launched a petition against them. “We believe such checks — which could include assessing whether people are ‘at risk of harm’ based on their postcode or job title — are inappropriate and discriminatory,” Truesdale has argued.
But Lucy Frazer, a Conservative member of Parliament who serves as the U.K. government’s culture secretary, has defended the commission’s proposal. The Gambling Commission estimates that roughly 300,000 people in Great Britain are experiencing problem gambling, and that another 1.8 million individuals are gambling at elevated levels of risk.
All told, those 2.1 million people account for about 3% of the country’s population.
“This government is not in the business of telling people how they can and can’t spend their money,” Frazer wrote in an op-ed late last year. “But we know, for some, gambling leads to a dangerous cycle of addiction that can feel impossible to escape. We have a duty of care to those at the greatest risk of devastating and life-changing financial losses.”
Not every response to problem gambling in the U.K. relies on government intervention.
For instance, the Premier League, the world’s top professional soccer league, has voluntarily agreed to remove gambling sponsorships from the front of players’ jerseys by the end of the 2025-2026 season, in an effort to reduce gambling’s appeal to kids.
Last April, when the Premier League announced the new policy, eight of the league’s 20 teams had gambling sponsorships on the front of players’ shirts. Numerous U.K. banks, meanwhile, offer features that allow gamblers to block themselves from betting at all, rather than using the self-exclusion features on multiple gambling apps. Those banking-app features, which have yet to gain steam at stateside banks, will typically decline any gambling transactions for three days, providing a cooling-off period to habitual gamblers who want to walk away. HSBC UK is one of the banks that offers such a tool.
“The 72-hour restriction aims to help give our customers time to pause when they are tempted to return to gambling,” Maxine Pritchard, head of financial inclusion and vulnerability at HSBC UK, said in an email.
Across the Atlantic Ocean, some U.S. states have taken a harder line than others on the use of credit cards. Iowa is one of a handful of states that — like the United Kingdom — bans the use of plastic in online sports betting.
“Credit is credit. And gambling has its addiction side,” said state Sen. Tony Bisignano, who was an architect of Iowa’s online sports gambling legislation. “If you mesh the two together, at some point someone will gamble their future away.”
Bisignano, a Democrat, said he believes that Iowa’s ban on the use of credit cards in gambling has saved lives.
“I think credit is the final destination before you’re done,” he said.
Some major U.S. credit card companies are taking a less restrictive stance. A JPMorgan Chase spokesperson said that the bank permits betting transactions where they are legal. Wells Fargo allows its credit cards to be used for lawful purposes, according to a spokesperson.
Bank of America, on the other hand, does not allow credit card transactions with gambling-related merchants, according to a company spokesperson. Citigroup declined to comment.
To advocates concerned about gambling addiction, banning the use of credit cards is a no-brainer. “Playing with money you don’t have can be a red flag,” said Doura-Schawohl, the lobbyist who advocates for policy responses to problem gambling.
Even without putting blanket bans in place, there are steps that credit card issuers could take to protect customers who show signs of having a gambling problem, said Les Bernal, national director of Stop Predatory Gambling, a nonprofit advocacy network.
Bernal would like banks to alert their customers when credit card transaction records indicate that the cardholder is chasing gambling losses, or continuing to place bets in an effort to make up for losing wagers. After all, banks have a unique vantage point that gives them a detailed picture of their customers’ gambling activity.
Those automated messages might work similarly to the fraud protection alerts that cardholders receive when they travel to a different city and make an unexpected purchase. “That was me, I wanted to make that transaction,” Bernal explained.
But the compulsive nature of gambling addiction could limit the effectiveness of this strategy; gambling addicts in the midst of a binge may not be receptive to an intervention from their bank.
Jon-Pierre Micucci, a recovering gambling addict who lives in San Francisco, recalled that he sometimes got phone calls from his bank’s fraud protection department in response to his online gambling sessions. While stuck at home during the COVID-19 pandemic, Micucci fell under the spell of online slot machines operated by unlicensed offshore companies.
“They would offer to hide the transactions like a porn site does. So it would show up as, like, Tommy’s Jeans from Indonesia,” said Micucci, who is now project manager of problem gambling hotlines at Health Resources in Action, a nonprofit consulting organization.
Micucci recalled that his bank statement might have shown roughly 150 consecutive transactions, all in the same odd amount. “All international, all sketchy,” he said.
But when his bank called Micucci to ask about the transactions, he would say: “It’s okay. Those are international. I accept those. And then I was off and running. They would never stop me again.”
Chris Ratcliffe/Bloomberg
The large buy now/pay later firms Klarna and Affirm have not embraced legal gambling. But a nascent product from an upstart competitor specifically targets bettors. Its design has sparked concern that it could feed gambling addictions.
The product, Edge Boost, is being billed as “the first bet now/pay later program for sports bets.” It will allow users to double the size of their wagers, using borrowed funds that they can repay at 0% interest in four weekly installments.
Edge Markets, the company that offers Edge Boost, expects to earn money from interchange fees. It will also charge fees to users who make an early repayment in order to regain access to their full borrowing capacity, according to a promotional video for the product.
“Let’s say you’re feeling great about this weekend’s game, but wish you had an extra $100 to wager,” says the video’s narrator. “Double down, and double your winnings.”
That message, which overlooks the possibility that the gambler will lose the bet, has generated outrage among problem gambling advocates. “This platform glorifies and entices people to spend more than they can afford to lose,” Doura-Schawohl told a sports betting publication last year.
Seni Thomas, the founder and CEO of Edge Markets, said that Edge Boost is in a testing phase, working with Cross River Bank and Galileo Financial Technologies, which is owned by SoFi Technologies. He is looking to launch the product in the first half of 2024, and he said it would be available in 27 states.
A Cross River spokesperson confirmed the New Jersey bank’s involvement. A SoFi spokesperson did not respond to a request for comment.
Thomas has a response to criticism of his company’s product. He argues that Edge Boost will serve as a replacement for illegal gambling, saying that many people bet in the black market because their bookies give them an advance, which is generally not available from regulated companies.
“Bookies want you to lose, and then they start charging interest on the balance,” Thomas said.
He also opined that there’s a misconception that people who gamble are degenerates: “I think people have watched too many movies, frankly.
“These are people that are quite sophisticated,” Thomas added. “They have the cash to back it up — high-income earners.”
It’s true that a majority of gamblers are not addicts.
Last year, researchers at the Center for Gambling Studies at Rutgers University published the results of a phone survey of 3,512 New Jersey residents. Although roughly 61% of the respondents had gambled in the last year, just under 6% of the respondents were classified as “high-risk problem gamblers.” Another 13% of the participants reported low to moderate gambling problems.
Those numbers suggest that a clear majority of gamblers place wagers as a form of entertainment, and they don’t bet more than they can afford to lose.
The Rutgers research also found that the prevalence of high-risk problem gamblers in New Jersey — a state that has a long history of legal casino gambling — was about three times higher than the average rate in a majority of population surveys both domestically and abroad.
Minnick, the gambling addict who has been in recovery since relapsing in November 2022, grew up in Washington Township, New Jersey, less than an hour from Atlantic City. Today he expresses the clear perspective of someone who’s been through recovery. He says that the archetypal gambling addict has an internal desire to accomplish great things, but without putting in a lot of effort.
When he was betting, Minnick once accumulated enough rewards points with Caesars Entertainment to receive a free three-day trip to the Bahamas, where Caesars had a partnership with the Atlantis resort and casino. He was flattered. He felt important.
In the early stages of the trip, Minnick’s wagers weren’t paying off. He decided to place a sports bet, known as a parlay, that would pay out if six different games ended the way he’d predicted.
Minnick correctly forecast the first five legs of the bet. The last contest was a regular-season NBA game between the New York Knicks and the Minnesota Timberwolves.
Minnick had put his money on the Knicks, who held a big lead in the second half. The parlay included a feature that would have allowed Minnick to cash out early for roughly 95% of the value of the win. But he refused to budge. The Timberwolves came back and won the game 102-101.
“I lost the bet, and I spiraled and spent even more money on credit in the casino,” Minnick recalled. “So what started out as feeling like a great gambler, a great big shot, turns into feelings of greed. It turns into feelings of depression.
“But it always came down to this belief that it would be different the next time,” he explained. “I would figure it out, and I’d come out on top. And you just don’t.”
One way that Minnick found the money he needed for gambling was by exploiting the fact that U.S. banks didn’t typically settle transactions over the weekend. It’s a loophole that could be closed if real-time payments gain widespread adoption.
Minnick explained, as a hypothetical example, that he might have had $500 in his bank account on a Friday. He would deposit the $500 into the sportsbook. Then he would wager away all $500. “Most people would say, ‘Okay, I have zero dollars, so I can’t gamble.’ But the bank doesn’t process that transaction until Monday. So between Friday and Monday morning, the bank sees that you have $500 in your account,” Minnick said.
Before the weekend was over, Minnick would move another $500 into his account at the sportsbook. “And the banks don’t catch it until Monday morning,” he explained.
“If you’re addicted to gambling, you’ll say something like, ‘Okay, I’m down $1,000 now, which means I’m going to have a $500 overdraft. So now I need to pull out another $1,000,” Minnick said, adding that gamblers convince themselves that they’ll win enough money to pay back the overdraft fees they’ve incurred. “And you dig yourself such deep holes because the bank catches up on Monday.”
Gambling industry insiders argue that the rise of legal online betting in the U.S. has brought significant advantages compared with the status quo prior to April 2018. That’s when the Supreme Court opened the floodgates by striking down a federal law that had barred most states from legalizing sports wagering.
First, people in the gambling industry point out, plenty of Americans were making illegal online bets prior to 2018. Legalization has allowed for regulation and oversight, and it’s enabled states to collect tax revenue. Electronic payments also offer various advantages over the paper currency that long ruled Las Vegas.
One asset of noncash payments is that they generate customer-specific data, which can be used to identify problem gamblers and help bettors set and stick to budgets. And data can be harnessed to provide customers with visual signals — such as green, yellow and red lights — about when it’s safe to gamble.
“We can guide people to a certain behavior without forcing them,” said Omar Sattar, co-founder and CEO of Sightline Payments, which specializes in serving the gambling industry.
Ghaharian, the senior research fellow at UNLV, wrote his doctoral dissertation about how payments transaction data can be used to identify markers of gambling-related harm.
Analyzing gambling payments data from more than 2,200 online casino players, he found three clusters of customers whose behavior indicated they were at potential risk of harm, including a group that had high decline rates even though their deposit amounts were low. “That might be a little bit of a red flag,” Ghaharian said.
Ghaharian recently got access to a new dataset, which he hopes will reveal patterns about how gambling transactions relate to other kinds of payments. One goal of the research is to look at how markers of financial vulnerability — or the ability to withstand a financial shock — relate to gambling spending.
Even some people in the gambling industry say that more needs to be done to address problem gambling. Jonathan Michaels, who consults for gambling firms on payments issues, said there needs to be further collaboration between financial institutions and gambling operators in order to determine when problematic behavior is occurring. “The industry hasn’t taken true proactive approaches,” he said in reference to both banks and gambling companies.
But skeptics wonder whether the gambling industry will ever take aggressive action, given its heavy reliance on frequent gamblers as a source of revenue. The states, which collect taxes from gambling, arguably have a similar conflict of interest.
According to that logic, the financial sector is the one major player that doesn’t have a vested interest in maximizing gambling revenue. Matt Zarb-Cousin, the U.K.-based co-founder of Gamban, which offers gambling blocking software that’s designed to be difficult to remove, described financial institutions as a disinterested third party.
He argued that there is no one silver-bullet solution in the battle against gambling addiction: “It’s about putting as many barriers in place.”
There’s no shortage of recommendations for how banks can contribute. Stop Predatory Gambling suggests not only larger ideas like credit card bans, but also smaller ones. For example, the banking industry could promote one day a year, similar to National No Smoking Day, when Americans are encouraged not to gamble.
Banks could also throw their support behind the idea that all gambling apps and slot machines must have a warning that reads, “The money that I’m gambling is not borrowed, and I can afford to lose it.”
Gambling reform advocates have generated at least two other ideas for how banks could help. One is to communicate with young people and vulnerable populations about problem gambling.
Banks could also take steps to help their customers understand how much they’ve spent each month on wagers. “It isn’t their problem to solve,” Zarb-Cousin said.
“But they are in a very good position to solve it,” he added.
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Senate Banking Committee Chairman Sherrod Brown is pressuring the nation’s four largest banks to make use of a federal database to determine whether their retail customers qualify for benefits under a law offering financial protections to active-duty service members.
Brown, D-Ohio, sent letters Wednesday to the CEOs of JPMorgan Chase, Bank of America, Citigroup and Wells Fargo, urging them to
That 20-year-old federal law caps the interest rates on loans made prior to military service at 6%, as long as the service member is on active duty.
Brown noted that lenders have the ability to run free checks of a Department of Defense database to determine whether customers are currently on active duty.
“Active duty servicemembers have much on their mind, from deployment, to concerns about leaving their families, to returning home,” Brown wrote. “Banks should not place the burden on servicemembers to request protections they are legally entitled to receive.”
Brown pointed to a December 2022 report by the Consumer Financial Protection Bureau, which found that fewer than 10% of auto loans taken out by Reserve and National Guard members who were on active duty got interest rate reductions.
The CFPB calculated that Reserve and Guard members who are on active duty pay about $9 million per year in interest that they are not legally required to pay.
Under the Servicemembers Civil Relief Act, service members may qualify for interest rate reductions by providing creditors with written notice of their active-duty status.
In an October 2023 report,
Brown’s letters followed a Senate Banking Committee hearing last week where he pressed the CEOs of the country’s biggest banks on whether their companies proactively check the database.
During the hearing, JPMorgan Chase CEO Jamie Dimon said he’s sure that his bank complies with the law. He also touted JPMorgan’s record of hiring military veterans and spouses.
Citigroup CEO Jane Fraser also pointed to her company’s record of employing veterans, before adding: “We make extensive investments in ensuring that we comply with the laws, and we do indeed tap into the database.”
Bank of America CEO Brian Moynihan said that the Charlotte, North Carolina-based bank follows the provisions of the Servicemembers Civil Relief Act. After receiving notification about service members’ active-duty status, BofA sends $180 million back to them annually, he said.
In written testimony, Wells Fargo CEO Charlie Scharf said that the San Francisco-based bank is committed to providing the benefits and protections required by the 2003 law.
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The strong credit performance at Fifth Third Bancorp has positioned the regional bank to expand lending in growth markets at a time when many banks are tightening their loan standards, its leaders said when announcing third-quarter earnings.
The $213 billion-asset company’s credit quality has “remained strong” throughout a year of economic uncertainty and volatility in the banking sector, according to Fifth Third CEO Tim Spence.
“Favorable credit outcomes” alongside deposit growth provide Cincinnati-based Fifth Third with an opportunity to continue applying “conservative underwriting policies” as the company moves forward with expansion efforts in the Southeast, Spence told analysts during a quarterly earnings call on Thursday.
“We can return to growing loans next year,” Spence said.
Between July and September, Fifth Third reported $316 million in early-stage loan delinquencies, a 7% decline from the second quarter and 6% lower than in last year’s third quarter.
Nonperforming loans more than 90 days past due totaled $29 million and decreased by 43% since the second quarter and by 51% compared with a year earlier.
And although net charge-offs of $124 million doubled compared with the year-ago period and climbed by 38% since the second quarter, the increase was “in line” with Fifth Third’s expectations earlier this year, according to Spence.
“From an overall credit management perspective, we have continually improved the granularity and diversification of our loan portfolios through a focus on generating and maintaining high-quality relationships,” added James Leonard, Fifth Third’s chief financial officer.
During the third quarter, Fifth Third focused on lending to homeowners as a “segment less impacted by inflationary pressures,” Leonard said. The strategy resulted in net charge-offs of $60 million in the consumer banking business, an increase of only three basis points from the second quarter, he said.
Meanwhile, Fifth Third’s commercial real estate exposure remains “very well behaved,” with higher-risk and delinquent loans in the portfolio improving during the third quarter, he said.
Office-related CRE loans, which have become a primary concern this year among investors, are “significantly better” than industry averages, according to Leonard. Fifth Third reported no new office-related delinquencies or charge-offs and decreased its loan balances by 8% “without any loan sales,” he said.
“Credit quality in the office portfolio has remained very strong, and we continue to believe the overall impact on Fifth Third will be limited,” Leonard said. “We nevertheless continue to watch it closely given the environment.”
Lending at Fifth Third was flat compared with last year’s third quarter and declined by 1% since the second quarter to a total portfolio of $122.3 billion. It reported total deposits of $167.7 billion, 2% higher than in the third quarter and 4% greater than in the same period last year.
The company reported a 74% loan-to-deposit ratio during the third quarter “as a result of our balance-sheet positioning and success adding new deposits,” Leonard said.
Total revenue fell nearly 1% year over year to $2.2 billion, while net income of $660 million was up 1% during the same period. Net interest income fell 4% to $1.4 billion, and noninterest income increased 6% to $715 million, since last year’s third quarter.
Fifth Third’s quarterly earnings received positive responses from analysts.
The bank’s “healthy” credit metrics and lower-than expected loan-loss reserves of $119 million — down 25% from a year earlier — led to an increase in Fifth Third’s earnings-per-share expectations, David Chiaverini, an analyst at Wedbush, wrote in a research note on the company’s results.
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U.S. banks can add the revival of student loan payments to the list of obstacles to deposit growth.
With more than 40 million Americans scheduled to resume making student loan payments this month, some consumers are tapping funds that otherwise would stay in their checking and savings accounts. Student loan payments for all Americans with such debt will total about $18 billion per month, according to a Jefferies report from this summer.
It is an unwelcome dynamic for an industry that has already seen consumer deposits flatline amid heightened competition among financial institutions. Thanks to higher interest rates, banks are also paying more for deposits — a contrast with the cheap funding that financial institutions enjoyed after the Federal Reserve cut interest rates sharply in 2020.
To prepare for the expected impact of the end of the pause on federal student loan payments, banks are modeling worst-case scenarios and bracing for a continued decline in deposits. Some are partnering with third-party vendors that promise to help bank customers with student debt reduce their monthly payments. Lower payments for consumers mean fewer deposits leaving the bank each month to pay down student debt.
“There are certainly areas of deposit pressure, and student loan payments are one more layer of pressure,” said Chris Marinac, director of research at Janney Montgomery Scott.
Other factors eating away at both consumer and commercial deposits include the rising cost of goods and services, which is leading banks’ customers to spend funds that would otherwise be deposited at the bank, as well as fierce competition from other financial institutions.
Deposits at U.S. commercial banks totaled $17.3 billion in late September, down from $17.9 billion a year ago. Bank deposits surpassed $18 billion for the first time in 2022, after consumers spent more than two years putting stimulus funds and other pandemic-era savings into their bank accounts.
“To limit deposit declines, banks have had to increase the rates they pay in the face of rising yields on products such as money market funds and Treasuries, as well as competition from other banks,” S&P analysts wrote in a report last week.
At the onset of the COVID-19 pandemic in 2020, the federal government paused student loan payments and lowered interest rates for borrowers to 0%. The moratorium was extended several times before the Biden administration announced earlier this year that payments would once again be due this fall.
As consumers adjust to resuming payments on their student loans, the relationship between household income and deposits may become more relevant for banks.
Lower-income households typically have a larger share of their assets in the form of bank deposits than their higher-income counterparts, according to research published Thursday by the Federal Reserve Bank of New York. Because households with lower incomes are more likely to have student loan debt, banks could see a particularly robust decline in deposits among those customers.
Households with the lowest incomes kept about 66% of their money in checking or savings accounts and the remaining 34% spread across other asset categories, according to the New York Fed data. At the same time, households in the highest income tier kept 17% of their money in deposit accounts, with the other 83% in stocks, bonds and investment accounts.
Several large U.S. banks have partnered with Payitoff, a startup that helps financial institutions automate debt management for consumer loans. Payitoff will help banks take advantage of existing relief programs for student loan borrowers, said Bobby Matson, the company’s CEO and founder, which can result in more of their customers’ funds remaining in deposit accounts.
“[Banks] should be really thinking about how to minimize the payments so they can reduce how many deposits are just getting allocated to these accounts,” Matson said.
Payitoff saves the average borrower with student loan debt about $240 per month, Matson said.
A clearer picture of deposit trend lines will come into view next week, when U.S. banks begin reporting their third-quarter results. Analysts expect the data to show that industry-wide deposits remained stable in the third quarter.
At Wells Fargo, commercial deposits are expected to stay at the same level, but deposits from consumers are set to decline through the end of the year, Chief Financial Officer Michael Santomassimo said at an industry conference late last month.
“The primary driver there is really spending that’s driving those deposits down,” Santomassimo said.
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Delinquency rates on consumer loans last month hit their highest level since the spring of 2020, a potential sign that inflation and rising interest rates are taking a toll on household finances.
Banks are keeping a close watch on delinquency rates, spending trends and credit originations to determine the health of the most powerful driver of the U.S. economy. Consumer spending accounts for about 70% of the country’s economic output, and banks and other businesses are eager to find out whether consumer spending will help the U.S. economy avoid a recession in 2024.
The share of consumer loans between 30 and 59 days past due rose 0.84% in August, up from 0.65% in August 2022, according to data from VantageScore. About 0.29% of loans were between 60 and 89 days past due in August, up from 0.21% a year ago. And 0.13% of consumer loans were between 90 and 119 days past due, up from 0.09% the previous year.
The delinquency rate for each of the three past-due timeframes was higher in August than any month since April 2020.
“People are relying on their credit more and in some cases are having trouble meeting their obligations,” said Jeff Richardson, senior vice president at VantageScore Solutions, the consumer credit scoring company behind VantageScore.
The combination of inflation and rising interest rates over the past 18 months has made it more difficult for Americans to stay on top of their loan payments. When the costs of goods and services rise, consumers often face higher monthly debt payments, and they may have to choose between necessities and debt payments.
Credit cards and auto loans saw the largest jump in delinquency rates between August 2022 and August 2023, according to the VantageScore data. Because the interest rate paid on cards is tied to short-term interest rates, those monthly payments can rise more quickly than consumers had anticipated.
“Your monthly obligation, because of the rate increases, is much harder to meet now than it was 13 or 15 months ago,” Richardson said.
Still, consumers as a whole are proving resilient, according to bank executives.
Consumer spending will likely help the U.S. avoid a recession in 2024, Bank of America CEO Brian Moynihan said this week. Spending by consumers at the $3.1 trillion-asset bank is up 4.8% this year, he said, but that growth is declining.
Credit card utilization increased just 0.1% between July and August, according to VantageScore data, a potential indicator that consumers are wary about the prospect of taking on more debt. Originations for personal loans, auto loans and mortgages also fell in August, thanks to lenders’ tighter standards and slowing demand growth for consumer loans. Only credit card originations increased in August.
Economic growth is expected to slow to 1.3% in 2024, down from 2.3% in 2023, according to a forecast released Wednesday by S&P Global. Lower consumer spending on nonessential items is expected to drive much of that decline, analysts said.
“The increase in subprime auto loan and credit card delinquencies suggests consumer discretionary spending will soon weaken,” S&P analysts wrote. “Moreover, student loan payments restart next month at a time when excess household savings have been largely depleted.”
Pandemic-era payment pauses and grace periods helped keep past-due rates on consumer loans low during the pandemic. Many U.S. consumers used stimulus funds and unemployment payments to stay up-to-date on debt payments and add to their savings accounts.
But much of those excess savings have since been spent, and consumers drove their credit card balances up by double-digit percentages in 2022. The high rate of spending continued for much of 2023 before slowing in recent months.
For banks, that means a cooling of consumer lending this year. Consumer loan growth at U.S. commercial banks was 5.6% in August, down from 12.3% a year ago, according to data from the Federal Reserve.
Consumers are set to further “tighten their purse strings” in 2024, S&P analysts wrote.
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Upstart Holdings Inc. has struggled to contend with a tougher lending environment, and the company indicated Tuesday that its challenges are expected to continue.
The financial-technology company, which uses artificial intelligence to inform lending decisions, delivered a lower-than-expected forecast for the current quarter, as Chief Executive David Girouard called out high interest rates and “an environment where banks continue to be super cautious about lending.”
For the third quarter, Upstart
UPST,
expects $140 million in revenue, while analysts had been anticipating $155 million. The company also models $5 million in adjusted earnings before interest, taxes, depreciation and amortization (Ebitda), while analysts were looking for $9.6 million in adjusted Ebitda.
Upstart shares tumbled more than 19% in Tuesday’s after-hours action.
See also: Marqeta scores long-awaited Cash App renewal, and its stock is surging
Chief Financial Officer Sanjay Datta, meanwhile, explained that the “ongoing supply of loans on offer in the secondary markets by sellers anxious for liquidity contributes to a challenging market dynamic, with loan books being sold at bargain prices and creating no shortage of buying opportunities for selected investors.”
“Our view is that it will take some time for the market to work its way through this surplus of cheap available yield,” he said. “Despite this, we continue to pursue a number of promising discussions with prospective funding partners, aimed at bringing more committed capital to the platform, and believe that we will be well positioned once the loan market returns to a more traditional state of pricing equilibrium.”
Though Datta said Upstart moved in a “promising direction this past quarter,” he also acknowledged there’s “much work to be done to restore our business to the scale and growth that we aspire to.”
Read: Toast’s stock heats up after earnings as company hits a milestone
The company reported a second-quarter net loss of $28.2 million, or 34 cents a share, compared with a loss of $29.9 million, or 36 cents a share, in the year-earlier period. On an adjusted basis, Upstart earned 6 cents a share, whereas analysts tracked by FactSet were modeling a 7-cent loss per share.
Revenue fell to $136 million from $228.2 million. The FactSet consensus was for $135.2 million. The company generated $144 million in fee revenue, compared with the $131 million that analysts were expecting.
Upstart’s lending partners originated 109,447 loans across its platform in the second quarter, totaling $1.2 billion. Conversion on rate requests was 9%, down from 13% in the same period a year prior.
Though Upstart beat on adjusted earnings, it “signaled that macro pressure is not set to abate in Q3, with credit performance and the funding markets still buffeted by a challenging economic environment,” Barclays analyst Ramsey El-Assal wrote in a note to clients Tuesday. “With a new Q3 guide that came in below Street estimates, we expect shares to be down in tomorrow’s tape.”
Shares of Upstart have rocketed 291% so far in 2023, through Tuesday’s close, as the S&P 500
SPX
has risen 17%.
Bankers that long focused on growth have a new goal: getting smaller.
The goal isn’t universal, as some banks still see opportunities and are picking up the pieces their competitors are leaving behind. But much of the industry is slimming down.
Bankers are tightening their underwriting. They’re cutting back or calling it quits on riskier or less profitable businesses. And they’re selling loans they no longer want, which helps them shrink their balance sheets and raise cash.
“Growing in today’s environment, at the same rate as what you’re used to, is less profitable,” said Chris McGratty, head of U.S. bank research at Keefe, Bruyette & Woods, pointing to rising deposit costs that are narrowing the profits banks make on loans. “So banks are being more selective on what they put on their balance sheets.”
The slimming down is particularly prominent at banks with more than $100 billion of assets, which are preparing to comply with tougher capital rules from the Federal Reserve. Trimming risk-weighted assets improves a bank’s capital ratios at a time when some banks will likely have to start holding bigger cushions to guard against losses.
Capital One Financial in McLean, Virginia, put $900 million of its commercial office loans up for sale. Citizens Financial in Providence, Rhode Island, said it would stop offering loans to car buyers in collaboration with auto dealers. Truist Financial in Charlotte, North Carolina, sold a $5 billion student loan portfolio.
At Cincinnati, Ohio-based Fifth Third Bancorp, executives said they’re on an “RWA diet.” In other words, they’re reducing the company’s risk-weighted assets as they bolster capital ratios ahead of the new Fed rules.
Regional banks aren’t the only ones looking to get smaller. Banks “of all shapes and sizes” are seeing opportunities to exit certain businesses or sell some loans, said Terry McEvoy, a bank analyst at Stephens.
Banks may take a loss by selling loans below their original value, but getting rid of them earlier may also have benefits. For example, if a glut of office loans becomes available for sale, the properties’ values may plummet, causing bigger losses among banks that waited to sell, McEvoy said.
“Those that are the first to exit may get the best price when it’s all said and done, and we’re not going to know that for quite some time,” McEvoy said.
Banks are not retreating from all sectors equally. Big banks reported strong growth last quarter in their consumer credit card portfolios, even as some took a more cautious tone on auto lending.
Bank OZK, in Little Rock, Arkansas, is “cautiously optimistic about our continued growth prospects,” CEO George Gleason said. Many of the bank’s competitors “are shrinking and laying off some really good people,” Gleason told analysts, giving the $30.8 billion-asset OZK a chance to pick up talent and gain new customers. Most of the bank’s loans are in the real estate sector, particularly construction.
“We’re putting on really great quality new assets and getting paid well for it,” Gleason said. “So we view it as a very opportunistic time for growth.”
Advisers who help banks buy and sell loans are busy.
“The market for selling loans is very vibrant,” said Jon Winick, CEO of the bank advisory firm Clark Street Capital. He predicted there will be “a lot more selling” in the coming months.
In consumer banking, auto loan sales have been popular, and sales of home equity lines of credit are “on fire,” said John Toohig, head of whole loan trading at Raymond James.
Banks that are selling their HELOC originations can do so “at a premium, which is hard to do these days,” Toohig said. HELOCs are fetching good prices because other banks want the short-term, floating-rate loans. Those features balance out the 30-year mortgages sitting on banks’ balance sheets, particularly mortgages they made during the pandemic boom when interest rates were at historic lows.
“It’s very balance sheet-friendly for banks and credit unions,” Toohig said. “They love to own it as a way to offset some of that 30-year fixed rate that’s killing their margin.”
There’s also plenty of interest from banks in reducing their exposure to office buildings, whose values vary depending on their location, age and occupancy rate, as remote work becomes more popular.
Within the office sector, the main properties being sold right now are either “trophies” or “trash,” Toohig said. Loans backed by newer properties with healthy occupancy trends can fetch good prices. Other loans are clearly “in the ditch,” and banks are scrambling to figure out how to get them off their balance sheets, Toohig said.
Some lenders are also taking the opportunity to sell certain performing loans, as it gives them cash to pay off any borrowings they took on during this spring’s banking turmoil.
Columbus, Georgia-based Synovus Financial, for example, sold $1.3 billion in medical office loans. The credit quality of those loans “was so pristine that we were able to get what we believe was a very fair price,” Chief Financial Officer Andrew Gregory told analysts.
Hedge funds and private equity firms are willing to scoop up less attractive commercial real estate loans. But they’ll only buy them at a steep discount, and some banks haven’t yet accepted that their portfolios will fetch far less money than they’d like.
Banks may be willing to accept, say, 90 cents on the dollar for tarnished commercial real estate loans. The problem is that buyers are sometimes looking to buy riskier loans at just 60 or 70 cents, or even less.
“In a lot of cases, sellers just aren’t there yet,” Clark Street Capital’s Winick said. “They have the desire to sell at some level, but they don’t have the desire to sell at the market level.”
That hesitancy could cost banks if property values fall further, or if an office building suddenly runs out of tenants, Winick said. While absorbing a big loss early is costly, so is waiting and taking a bigger charge-off later.
“Your first loss is always your best loss, or usually your best loss,” Winick said. “I can give you a million examples where banks waited too long to move on a credit that was going sideways.”
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Credit card lenders plan to stay in growth mode, saying they detect few causes for alarm in the consumer sector despite lingering recession fears.
To be sure, consumer credit quality has deteriorated. Late payments are rising again on credit cards and auto loans, and banks are being forced to charge off some loans. High interest rates are making it tougher for some consumers to pay back debt.
But the U.S. economy has so far continued to power forward, giving many consumers the ability to keep spending and stay current on their payments. Bank CEOs say consumers have remained resilient despite signs of stress, giving the industry the ability to keep growing credit card loans and avoid a broad contraction of credit.
“I’d say we’re seeing a more cautious consumer, but not necessarily a recessionary one,” Citigroup CEO Jane Fraser said on the bank’s second-quarter earnings call.
Citi, one of the country’s largest credit card issuers, had some $195 billion of loans in its U.S. personal banking division in the second quarter, up 13% from a year earlier. Credit card growth was strong at JPMorgan Chase, Bank of America and Capital One Financial.
Consumers remain in “reasonably good shape,” Capital One CEO Richard Fairbank said on Thursday.
“We have a very watchful eye on all those negatives,” Fairbank said, pointing to persistent worries that the economy will take a turn. But the McLean, Virginia-based lender thinks it’s “a good time to keep leaning in” and expanding its card business.
That’s not to say the environment is necessarily getting better. Capital One card loans that were 30 or more days late on their payments rose to 3.77% during the second quarter, up from 2.42% in the second quarter of 2022. The company expects some of those delinquencies to turn into actual losses that the bank will end up absorbing.
But Fairbank described that as part of “normalization,” adding that it’s “very natural” for credit quality to return to pre-pandemic trends.
Consumer lenders benefited from an unusually healthy credit environment during the pandemic. Many consumers had larger savings buffers — thanks to government stimulus and accumulated savings from staying at home — and used that money to pay down debt.
In recent months, however, credit quality has returned or nearly returned to pre-pandemic totals across the industry.
Delinquency figures at big banks’ credit card divisions are hovering around 2019 levels, and while charge-offs remain below pre-pandemic norms, they rose sharply in the second quarter, according to Moody’s Investors Service. Average credit card charge-offs were at 2.99% during the second quarter, up from 2.69% in the first quarter.
The quick pace of deterioration is somewhat troubling given that it’s happening even though the economy hasn’t faltered, said Moody’s Senior Vice President Warren Kornfeld. “I really would expect us to be in better shape,” he said.
Overall, consumer credit remains “solid,” Kornfeld said, but there are “absolutely pockets of consumers that are struggling financially.”
Lower-income consumers and those with subprime credit scores have been more likely to see stress. Fifth Third Bancorp has also seen a “divergence” among consumers, with homeowners who locked in low mortgage rates faring better than renters, Timothy Spence, CEO of the Cincinnati, Ohio-based regional bank, told analysts.
While higher-income cardholders are spending big and racking up reward points, others are having a tough time repaying their cards and their balances are swelling, said Greg McBride, chief financial analyst at Bankrate.com. That’s a costly proposition given that annual interest rates on credit cards are upwards of 20%.
“Nobody’s financing purchases at 20% because everything is just going swimmingly,” McBride said. “People are putting purchases on a credit card at 20% out of necessity, not choice.”
More signs of strain should emerge as the U.S. economy continues to grapple with the fastest pace of interest rate increases in decades, McBride said. Thus far, the country’s employers have continued to add jobs — so consumers are continuing to get the paychecks they need to pay their bills.
Optimism among investors that the U.S. will avoid a recession has increased in recent weeks, but a so-called “soft landing” is not yet assured.
Moody’s expects a modest recession could send credit card defaults to about 5% next year, up from 3.5% in 2019. While that would lead to losses at banks, the losses would be far less severe than the roughly 11% charge-off rate after the 2007-09 financial crisis, Kornfeld noted.
Though banks have tightened up their underwriting over the past year, Kornfeld said losses will likely be a bit higher if banks continue growing credit card loans at a strong pace.
“I don’t see significant weakness, but … there’s a level of concern,” Kornfeld said.
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U.S. consumer borrowing slowed to a more than two-year low in May, reflecting the first decline in nonrevolving credit since the onset of the pandemic.
Total credit rose $7.2 billion, the smallest advance since November 2020, Federal Reserve data showed Monday. The figure, which isn’t adjusted for inflation, was lower than all forecasts in a Bloomberg survey of economists.
Nonrevolving credit, such as loans for school tuition and vehicle purchases, decreased $1.3 billion, the first decline since April 2020.
Five-year lending rates for new-vehicle purchases reached 7.81% in May, the highest since 2006, the Fed data showed. Auto sales cooled during the month, according to industry figures.
Revolving credit outstanding, which includes credit cards, rose $8.5 billion — representing a slowdown after sharp gains in the previous two months. Credit cards issued by commercial banks carried a 20.68% rate in May, a record in Fed data back to 1972.
While low unemployment and steady wage gains have provided many consumers the wherewithal to keep spending, persistently high prices have led others to dig into savings or rely on credit cards to keep up. Adjusted for inflation, consumer spending has largely stalled after surging at the start of the year. Delinquency rates, meanwhile, are ticking up.
Looking ahead, the finances of households with student debt are poised to be strained further. More than 40 million Americans will resume student-loan payments this fall after a three-year pause.
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The collapse of two U.S. auto dealers and a growing pile of delinquent car loans are threatening to deliver losses in a corner of Wall Street that, until now, has been a sea of calm: the asset-backed securities market.
Bonds backed by car loans made by U.S. Auto Sales and American Car Center, two used-car dealers that shut their doors earlier this year, have been veering into distress in recent weeks. Borrowers have been falling behind on payments, and Citigroup believes that some of the riskiest parts of three different asset-backed deals could fail to return principal to investors.
Any lost principal would be a rare event in the ABS market, where subprime auto bonds haven’t failed to return investors’ money since the 1990s, Citigroup said. Prices on a bond issued by U.S. Auto Sales, owned by the private equity firm Milestone Partners, have dropped to distressed levels, trading at a little over 18 cents on the dollar on June 26, according to Trace data.
The disruption is a major test for the subprime auto ABS market, where issuance grew by more than 70% to $40.5 billion in the five years through 2021, according to data compiled by Bloomberg News.
“The economy is not doing well, and there’s a flood of shaky issuers that are going out of business” in the auto market, John Kerschner, head of U.S. securitized products at Janus Henderson, said in an interview. When lenders do fail, “it’s hard to get borrowers to pay back their debt, especially because sometimes it’s not clear where to send the payments.”
Milestone Partners didn’t reply to a request for comment, while a spokesperson for York Capital, which backed ACC before the bankruptcy filing, declined to comment.
As the Federal Reserve ends quantitative easing and tightens the money supply, credit is harder to come by across the economy. Consumers, meanwhile, are burning through their pandemic-era savings.
The deterioration of the bonds issued by ACC and U.S. Auto Sales comes months after both companies announced they were closing their dealerships. Both firms transferred the collection of payments on their loans, known as servicing, to Westlake Portfolio Management after going bust. A spokesperson for Westlake declined to comment.
“The bonds are deteriorating in part” because it takes a few months to transfer the servicing of the loans “and meanwhile consumers may cease making payments,” Eugene Belostotsky, a securitized products strategist at Citi, said in an interview. “The lenders went under because borrowers were not paying back the debt, now that’s just accelerating.”
Moody’s Investors Service further downgraded some of U.S. Auto Sales ABS in late June, for moving the E note of the 2022 deal to a C rating. The ratings firm noted that there are shortfalls in the pools of money available to pay bondholders because dealerships haven’t fully reimbursed trusts for items like unearned vehicle service contract payments.
One of the reasons auto ABS losses are almost unheard of is the use of investor protections known as overcollateralization. That means the amount of loans backing the bonds exceeds the size of the principal on the bonds, allowing at least some borrowers to default without any losses for bondholders.
But for the two subprime issuers that ran into difficulties this year, those protections have waned dramatically on some securities. The overcollateralization for the 2022 U.S. Auto bond has fallen to just 5.5%, compared with a target of 35%, according to a Citigroup report dated June 30.
Not all bonds in these ABS deals will be impaired, money managers who are monitoring the bonds say, but investors who hold the riskiest portions of the deals could be wiped out.
“We are going to see more securities getting hit going forward,” said Dan Zwirn, chief investment officer at Arena Investors, in an interview. “Subprime lenders are in for a reckoning.”
— With assistance from Charles Williams and Scott Carpenter
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Americans paid 14% more for financial services last year, according to new research, driven by rising interest rates on loans, increased borrowing and, to a lesser extent, higher fees on deposit accounts.
Consumers spent $347 billion on interest and fees in 2022, up from $304 billion the previous year, according to a report from Financial Health Network, a nonprofit organization that focuses on improving Americans’ financial outcomes.
Spending on credit and loan products — excluding mortgages, which were not covered in the report — rose by 15%.
“Altogether, this paints a picture of debt that could really start to strain the checkbooks of American families,” said Meghan Greene, senior director of policy and research at Financial Health Network. “Toward the end of 2022, there were a number of signs that defaults were starting to grow, so that gives us a worrisome picture of how much debt people are carrying.”
The signs of weakening consumer credit have continued into 2023. Delinquencies on credit cards and auto loans have reached or surpassed their pre-pandemic levels in recent months — a sign that Americans are losing the financial cushion they have enjoyed for the past few years. The return to pre-pandemic credit quality also indicates that consumers are paying their debts at a more typical pace, compared with the quick rates they had maintained until recently.
Starting in 2020 and continuing through much of 2022, consumer credit quality was strong thanks to pandemic-era measures that helped customers keep up with their loan payments, including lenient payment time frames and government stimulus payments.
But the Financial Health Network report highlights factors that are now stretching consumers’ wallets. Last year, total fees and interest on credit cards rose 20% from 2021 to $113.1 billion, according to the report.
Higher interest rates drove about one-quarter of the increase, while elevated card balances accounted for the rest, according to estimates by the report’s authors.
The findings align with other recent data that show consumers loading up their credit cards at the fastest year-over-year pace on record. Credit card balances totaled $1 trillion at the end of March, a 17% increase from a year earlier, according to the Federal Reserve Bank of New York.
The U.S. personal savings rate, which spiked during the pandemic, fell to historical lows last year and has only slightly increased so far this year.
The Financial Health Network found that consumers who financed used-car purchases paid about 18% more in interest and fees last year, while those who borrowed to buy new cars saw their overall costs increase by 7%.
Out of 13 credit and loan products, 11 showed increases in total fees and interest in 2022, according to the report. Spending on unsecured installment loans and pawn loans jumped 25%.
The Federal Reserve hiked interest rates seven times in 2022, ending the year between 4.25 and 4.5%. The faster-than-expected increase in rates took businesses and consumers alike by surprise, leading to higher rates on products from credit cards to student loans.
U.S. consumers also paid 4% more last year on services related to transactions and deposits, according to the Financial Health Network report. The biggest increases came in account maintenance fees, which rose by 16%, and charges for international remittances, which climbed by 10%.
Spending related to transactions and deposits rose despite a decline in what has historically been one of the industry’s most lucrative fee categories — overdraft-related fees.
Revenue from overdraft and nonsufficient funds fees fell by 6% to $9.9 billion, down from $10.6 billion in 2021 and an estimated $15.5 billion before the COVID-19 pandemic. Many large banks made their overdraft policies more consumer-friendly last year in the face of regulatory pressure and competition from neobanks.
But the declines in overdraft revenue weren’t uniform across the industry.
Banks with at least $1 billion of assets reported a 13% decline in revenue from overdraft and nonsufficient funds fees, according to a Financial Health Network analysis of call reports. Meanwhile, at banks with less than $1 billion of assets, overdraft revenue increased slightly between 2021 and 2022.
The cost and logistical challenges associated with overhauling the systems that execute overdraft policies are holding many smaller banks back from doing so, said Hank Israel, managing director of behavioral insights at Curinos, a financial services consulting firm. He also pointed to rising interest rates, which have put pressure on banks’ margins, as a factor that may have stopped smaller banks from reducing overdraft fees.
“They don’t have the same ability to manage pricing on deposits as rates rise, and so they’re kind of a little squeezed in order to try and address this challenge,” Israel said.
Although overdraft fees may be smaller and charged less frequently, the same share of households reported paying them last year, 17%, as in 2021, according to the report.
Banks are still tweaking their overdraft policies. Regions Financial, which regulators fined as recently as last year for overdraft violations, said last week that it will give customers an extra day to avoid overdraft charges.
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Bank economists predict that lenders will remain quite cautious in the coming six months amid soaring interest rates and ongoing worries over the economic outlook.
The American Bankers Association’s headline credit index, which measures sentiment about both consumer lending and commercial lending, remained near an all-time low despite a slight improvement in the most recent quarter.
The index, which is based on a survey of chief economists at 15 of the nation’s largest banks, came in more than almost 43 points below the 50-point threshold that marks the line between improving and deteriorating credit conditions.
The economists expressed greater pessimism about business credit availability than consumer credit availability, but they expect both to keep worsening.
The consumer credit index rose by 2.6 points in the third quarter to 8.3, but none of the surveyed economists expected consumer credit quality and availability to improve later this year. The business credit index ticked up by 0.5 points but remained quite low at 6.3.
Bank credit availability has been strong over the past few years, but the Federal Reserve’s rate hikes over the past 15 months have contributed to lower demand for credit.
The recent turmoil in the banking industry has also led banks to adopt tighter lending standards. That has been especially true among midsize banks, which have expressed more concern about liquidity and funding costs.
“This is more or less in the context of what was expected to be a challenging economy,” said Richard Moody, who is the chief economist at Regions Financial and was one of the economists surveyed by the ABA. “We’re all this kind of bracing for some normalization — getting back to where we were prior to the pandemic.”
Tighter lending standards are generally expected to follow worsening credit market conditions, but household financial household conditions remain healthy, and delinquency rates are still relatively low.
During the first quarter of 2023, delinquency rates on credit cards and auto loans ticked up, according to the Federal Reserve Bank of New York’s quarterly report on household debt and credit in May. But those numbers had previously been near historic lows.
Consumers still appear capable of meeting their debt obligations. Debt made up roughly 5% of disposable income in the first quarter, more than three-tenths of a percentage point below pre-pandemic levels, according to the ABA report.
Businesses also appear prepared to manage their debt. Commercial and industrial loan delinquencies fell to a near-historic low of below 1% in the first quarter, while charge-off rates rose slightly but remained below pre-pandemic levels, according to the ABA report.
But with slower growth now expected, businesses may need to grapple with weakened consumer demand and fewer prospects for investment, which figures to hurt commercial loan demand.
Banks have also begun to tighten their standards.
In the Federal Reserve’s most recent senior loan officer survey, the net percentage of banks that raised standards for commercial and industrial loans was 46%. That survey, conducted between late March and early April, included responses from 84 banks.
Similar to the ABA’s findings, the Fed’s survey of bankers showed that the industry expects further tightening across all loan categories for the remainder of the year.
“Banks are going to be really mindful of what’s happening in a particular market,” said ABA Chief Economist Sayee Srinivasan.
Starting in 2022, the Fed hiked interest rates several times to counter rising inflation. On Wednesday, it held its key interest rate steady –– at roughly 5% –– for the first time in more than a year.
“Even if rates don’t change, the cumulative effect of everything that the Fed has done will slow economic activity,” Srinivasan said.
The U.S. job market has remained strong, with the unemployment rate increasing only slightly in May to 3.7%, according to the U.S. Bureau of Labor Statistics. Meanwhile, wages have risen roughly 4% over the past year, with pay growth highest among lower-wage workers.
Maintaining a strong labor market will be critical to how loan demand and credit quality evolve as lenders become more guarded, Srinivasan said.
“If the labor market remains strong, that means people will be spending, so demand will remain strong,” he said. “Even if households continue to borrow money… they will continue to make payments on their loans. Credit quality will remain good.”
Srinivasan said that Wall Street appears to be betting on a soft landing for the U.S. economy, but he noted that there has been a recent uptick in unemployment and a downtick in gross domestic product.
“The question is: How bad is it going to be?” Srinivasan said.
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Consumer advocates are praising a new Colorado law that they say will limit high-cost consumer lending by out-of-state banks, saying they hope other states pass similar measures.
The change means Colorado will opt out of a decades-old federal law that allows interest rates charged by banks from other states to be exported to Colorado residents. Consumer groups say that law lets high-cost lenders charge exorbitant interest rates to consumers by partnering with a few banks outside Colorado.
Some states, particularly Utah, have relatively loose limits on the interest rates that banks chartered within their borders can charge. Those banks sometimes work with high-cost lenders to offer loans with rates above what Colorado and other stricter states would otherwise allow — an arrangement that consumers advocate deride as the “rent-a-bank” model.
That approach is “saddling working families with high-cost debt,” said Ellen Harnick, director of state policy at the Center for Responsible Lending. Other states should follow Colorado’s lead and prevent their residents from being charged high rates that are allowed elsewhere, she said.
“These lending arrangements are proliferating, and they’re very expensive to shut down one by one,” Harnick said, pointing to the substantial legal costs that states incur when they fight those lenders in court.
The prevalence of high-cost lending in Colorado, which has taken an aggressive stance on the issue in past years, is unclear. In light of concerns about the legal regime in the Centennial State, several lenders that charge annual interest rates above the state’s 36% rate cap do not operate in Colorado. In 2020, a couple of other companies reached a settlement with Colorado authorities that limits the rates they can charge to 36%.
But high-cost lenders do operate in many other states. Officials in that industry say they provide a service that helps consumers who need cash but are often shut out of traditional bank loans.
The Online Lenders Alliance, a trade group that represents high-cost lenders, cautioned other states against following Colorado’s lead, saying that the new law will be bad for both consumers and the banks that partner with high-cost lenders.
“Any state that goes along with this misguided effort will be creating a lose-lose proposition for community banks and consumers — especially those who struggle with access to credit,” Andrew Duke, the group’s executive director, said in a statement.
Colorado’s new law relies on the Depository Institutions Deregulation and Monetary Control Act, a 1980 federal law that lets state-chartered banks export their home state interest rates elsewhere.
States have the ability to opt out of the 43-year-old law, though Iowa is currently the only one that does so. Federally chartered banks have the ability to export their rates under a separate federal law.
Colorado is exercising its opt-out authority under the measure that Democratic Gov. Jared Polis signed into law. The provision will take effect on July 1, 2024.
But already, a legal debate is brewing over whether the state law leaves potential wiggle room for high-cost lenders.
In a blog post, lawyers at the firm Manatt wrote that out-of-state banks may still be able to charge their home-state rates, depending on legal interpretations of where a loan is “made.”
Lauren Saunders, associate director at the National Consumer Law Center, described such debates as lawyers trying to “gin up uncertainty” even though the language on state opt-outs is clear.
Alan Kaplinsky, senior counsel at the law firm Ballard Spahr, said he “would not be surprised” if lawmakers in other Democratic-led states introduce similar bills.
That domino effect, he cautioned, may lead to fewer loan options for consumers. It also could force consumers to turn to less regulated sources of credit, he said.
“I’m not aware of any other state that’s done it, but it’s very early,” Kaplinsky said.
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