Defaults to Rise for Discover and AmEx?

Zacks Equity Research

On Nov 15, 2013, major credit card processing companies, American Express Co. (AXP) and Discover Financial Services (DFS) reported a change in charge-offs and delinquency rates for the month of October. However this news failed to pull up the share prices of either of the companies owing to broader market conditions.

Net Charge-Off

Card companies usually write off the loans that are 180 days past due, assuming those as uncollectible. Such credit card defaults or net charge-off (NCO) rate witnessed a decline for both Discover Financial and American Express last month. While American Express’ write-off rate for October 30 days past due loans reported favourable results, declining 10 basis points to 1.5% from 1.6% in the last month, Discover Financial’s charge-off rate for the same period was also encouraging as it declined 17 basis points to 1.56%.

Delinquency

Delinquency rate, indicating the future rate of default (future charge-offs), stood at 1.1%, flat with that of Sep 2013 numbers for American Express. However, delinquency rates for Discover Financial increased 4 basis points from Sep 2013 to 1.59% in Oct 2013, reflecting poor credit quality going forward. This deterioration reflects the delayed payments on their loans.

Performance So Far

For Discover Financial the credit card net charge-off rate improved 40 basis points year over year to 2.25% in the first nine months of 2013. As of Sep 30, 2013, delinquency rate over 30 days past due fell 12 basis points from 1.79% at year end 2012 to 1.67%. However, the recent increase in delinquency rate, reflecting poor credit performance, might soften Discover Financial’s growth in the upcoming period.

On the other hand, American Express’ net write-off rate improved 26 basis points to 1.08% in the first nine months of 2013 while delinquency rate improved 14 basis points to 1.10%. Improved credit quality should drive American Express’ fundamental growth further.

Improvement in delinquency and net charge-off rates implying an improved credit quality also enhances liquidity that helps a company to efficiently deploy capital. During the third quarter Discover Financial repurchased 7 million shares for $350 million while American Express repurchased 13 million shares for $971.5 million. However the present drag in delinquency rates might weigh on bottom-line growth of both the companies going forward.

Others

Delinquency rates also increased at JPMorgan Chase & Co. (JPM) and Capital One Financial Corp. (COF) for the month of October. While delinquency rate increased 3 basis points from Sep 2013, to 1.60% for JPMorgan, Capital One Financial suffered an increase of 8 basis points from the last month to 3.54%.

Both Discover Financial and American Express currently carry a Zacks Rank #2 (Buy).

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