Credit card interest rates in general likely will continue rising this year as a direct result of the Credit Card Accountability, Responsibility and Disclosure Act, Richard D. Fairbank, chairman, CEO and president of Capital One Financial Corp., told analysts during a recent conference call.
But determining individual customer interest rates that are both competitive and profitable remains a tough challenge, he said.
Card-account interest rates “have risen about 300 basis points over the last year and have edged into the mid-teens in the last few months,” Fairbank said. “We believe industry pricing needs to continue to increase to provide appropriate resiliency for new (card account) originations,” he said, noting the new card law significantly restricts issuers’ ability to change customers’ interest rates based on individual risk profiles.
Under the act, most of which went into effect Feb. 22, issuers cannot raise cardholders’ interest rates unless an account is more than 60 days overdue or if an introductory rate expires. Issuers also cannot increase the interest rate for the first 12 months after a customer opens an account.
Because issuers no longer can change a customer’s interest rate in response to higher risk factors, such as carrying higher debt, Capital One is under pressure to offer customers an initial interest rate that will guarantee profitability over the life of the account, Fairbank explained.
The credit card industry revenue model and pricing structure has shifted from back-end pricing to upfront interest rates and, in some case, annual fees, he said.
While Fairbank believes the new approach has “a lot of benefits,” the lack of leverage in changing interest rates when customers’ risk profiles change means that interest-rate pricing resilience “will be somewhat diminished,” Fairbank said.
During the past 10 years, “the industry has slipped ... into a rather weak underwriting habit of originating at a low rate and letting repricing take care of (risk), Fairbank said. “It is profoundly important that our investors and our industry understand that this is not how it’s going to work going forward,” he said.
Capital One plans to find the right “destination” interest rate for its credit card products—particularly those where consumers revolve balances—that is competitive and yet maintains enough resiliency for credit cards to remain profitable, Fairbank said. “We are watching (industry credit card interest-rate pricing) like a hawk,” he said.
The issuer plans to “build resilience” into its credit card product pricing, and “how much growth we have in particular segments is really going to be driven on whether the industry prices prudently,” Fairbank said.
Capital One is “well-positioned” to compete under the Credit CARD Act’s rules, partly because the company never engaged in most of the practices the law prohibits, including “single-infraction penalty repricing,” Fairbank said. Moreover, he expects the industry’s overall health to be “more sustainable long-term with competitive practices cleaned up by the CARD Act” and that the new rules “will play to our strengths.”
Citing improving performance in its pared-down portfolio and lower loan-loss reserves, Capital One last month reported its credit card unit earned $489.6 million in profits during the quarter ended March 31, up dramatically from $3.3 million a year ago. Total revenue was $2.83 billion, up 4.8% from $2.7 billion in 2009 (see story).