Tuesday, March 10, 2009

Credit Cards Raise ‘Canary in Coal Mine’ Alert at Canada Banks

By Doug Alexander on Bloomberg:

Krystal Koglin didn’t think twice when Toronto-Dominion Bank offered to boost the limit on her Visa credit card 11-fold a couple of years ago.

She went on a spending spree, hitting department stores like Holt Renfrew, treating friends at restaurants, splurging on designer jeans and buying “needless things” on EBay Inc.

“Being a young adult and irresponsible, I spent a lot of money that I shouldn’t have,” the 24-year-old salon manager and BCE Inc. employee in Toronto said. “I couldn’t handle having the responsibility of a C$5,500 ($4,237) limit.”

Toronto-Dominion and other Canadian banks are suffering from a rise in credit-card losses from clients such as Koglin, who cut up her Visa card in December after skipping payments. Four of the country’s biggest banks set aside 51 percent more cash on average in the first quarter for card losses, and these costs may rise further this year, bank executives said.

“If there’s another shoe to drop, credit cards are going to be it,” said John Kinsey, who manages about C$1 billion including bank stocks at Caldwell Securities Ltd. in Toronto. “It’s probably going to be the Achilles heel this year for the banks.”

Credit-card delinquencies and losses have risen with higher unemployment and personal bankruptcies, according to Moody’s Investors Service. Those trends will continue through 2009, even as issuers reduce credit limits and scale back on offers to entice clients.

Rising Losses

Canadian card losses in the third quarter rose to 3.1 percent of average balances, the seventh straight period of year- over-year increases, according to Moody’s. By comparison, U.S. card losses rose to 6.6 percent of balances.

Canadian Imperial Bank of Commerce, the country’s No. 5 bank, set aside C$152 million for card losses for the period ended Jan. 31, nearly double a year ago. Royal Bank of Canada earmarked C$83 million, a 28 percent increase, while Bank of Montreal reserved C$56 million for losses in its MasterCard portfolio, up 47 percent.

Canadian Imperial, Canada’s largest card issuer, is “slowing growth” of credit cards, says Chief Executive Officer Gerald McCaughey. Cards were the second-biggest revenue generator for CIBC’s consumer bank in 2008, bringing in C$1.75 billion.

“The card portfolio continues to grow, but at a much slower rate,” McCaughey told reporters after the bank’s annual meeting in Vancouver on Feb. 26. “In difficult times it’s quite normal that you would slow the growth of credit granting.”

Credit-Card Concerns

CIBC has the most consumer credit-card loans among Canada’s five-biggest banks with C$10.5 billion, representing 6.3 percent of total loans, according to filings. Royal Bank of Canada has the second highest, followed by Toronto-Dominion, Bank of Nova Scotia and Bank of Montreal.

Royal Bank CEO Gordon Nixon said he’s more concerned about rising defaults from credit cards than mortgages in the recession. Royal Bank had C$8.93 billion in credit-card loans as of Jan. 31.

“There is a natural deterioration in credit in a recessionary environment,” Nixon said on Feb. 26. “Credit-card deterioration always happens much sooner and much more dramatically than you’d have in a mortgage portfolio because they are unsecured loans.”

Conservative lending practices and regulations allowed Canadian banks to escape the worst of the writedowns faced by U.S. banks from the collapse of the subprime mortgage market. The lenders don’t have such protection for credit cards, aside from charging interest rates as high as 19.75 percent on outstanding balances, compared with a prime rate of 2.5 percent on loans to their best customers.

Miners’ Canary

Canadian banks will see “earnings headwinds” from significant increases in provisions for card losses, Dundee Securities Corp. analyst John Aiken said in an interview. A deteriorating credit-card business is a sign of worsening credit among consumers, which will hurt the banks’ other businesses, he said.

“It’s definitely the canary in the coal mine,” Aiken said. “If these customers aren’t paying their credit cards, that means they’re not buying anything else and you’ll see a ripple effect.”

Banks have been bracing for a slump as Canada struggles in its first recession since 1992. The economy will shrink by 1.2 percent this year, the Bank of Canada forecast. Companies shed a record number of jobs in January, pushing the jobless rate to a four-year high of 7.2 percent.

Balances Rise

Credit-card balances at Canadian banks have risen by almost 40 percent since 2004 to C$49.9 billion as consumers took on more debt, Deloitte said in a report last month. Banks and issuers may post an additional C$800 million in credit-card losses this year, rising to about C$4 billion, the consulting firm said.

Canadians owned 71.6 million cards issued by Visa Inc., MasterCard Inc. and American Express Co. at the end of 2007, according to The Nilson Report, an industry publication.

“The impact of credit deterioration in Canada -- and I’m talking about all banks -- is going to be felt across everybody’s product groups, whether it’s in credit cards or mortgages,” Bank of Nova Scotia Chief Risk Officer Brian Porter said in a March 2 interview.

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