Discover Riding Out Subprime Problems: CEO

The collapse of the subprime housing market has yet to have any effect on credit card charge offs or collections, David Nelms, chairman and CEO of Discover Financial Services, said Friday at the Foreword Financial Conference in Chicago. However, Nelms told insideARM.com, “if we see some changes [in charge offs] from people who have adjustable rate mortgages, we might need to look more closely at the situation.”

Credit card issuers have seen lower delinquency rates compared with subprime mortgage firms, primarily because issuers never had the huge spike in customers that the mortgage firms recorded in the last few years, says Nelms. Subprime mortgage delinquencies hit a low of around 10 percent at the end of 2004, but have moved upward since then, according to Nelms. As of the end of the second quarter of 2007, subprime delinquencies had exceeded 14 percent and were still trending upward.

Some reports have called for the subprime problems to continue to worsen as more adjustable rate mortgages that were taken out in 2005 reprice to market-based rates from their initial below-market teaser rates. Those teasers typically lasted for two years, then were set to reprice to prevailing market rates for the next 28 years.

Delinquencies for prime mortgages, by contrast have held steady at about 2 percent. There was a small increase in the last two quarters of this year, but the rate still remains far below 3 percent, according to Nelms.

While the mortgage market has had well-reported problems, credit card delinquencies and charge offs have actually dropped, with both now at around 4 percent.

Charge-off rates, which were 5.5 percent in the first quarter of 2003, trended down to around 4.5 percent into the third quarter of 2005. Nelms noted that the change in bankruptcy law enacted in October 2005 led to an upward spike in charge offs to near 5.5 percent in the fourth quarter of 2005. But charge offs fell sharply in the first quarter of 2006 to under 3.5 percent, though they have moved gradually higher since then to around 4 percent.

Delinquency rates for credit cards have seen little change in recent years, coming in at around 4 percent now. Discover’s own experience mirrors the industry averages, according to Nelms, primarily that credit card issuers stayed fairly consistent in the number of card holders and in credit granted, while there was a sharp peak in subprime mortgages in 2004, as credit and application guidelines loosened, Nelms pointed out.

Yet the subprime market experience does provide some warnings for credit issuers, Nelms said. “We should review our credit criteria, review risk management procedures, [and] work with customers who may be affected.” Nelms added that credit card issuers must maintain adequate pricing and continue to structure products wisely.