Discover Financial Services is finding there’s a price to pay for years of uncommonly low losses in the credit card business.

The $93.7 billion-asset company reported a 9% increase in revenue during the second quarter, while expenses rose by just 1% — results that might sound like the basis of a strong quarter. But they were more than offset by a 55% spike in Discover’s loss provision, as chargeoffs in the firm’s flagship card unit continued to climb.

During a Wednesday conference call with analysts, Discover’s top executives sought to put the rising losses in context. They noted that the 2.94% quarterly chargeoff rate for the company’s credit card unit remained low by historical standards. And they professed to have stayed disciplined when it comes to approving card applicants.

But the bottom line in the second quarter was lower profits. Discover’s net income dropped 9% from a year earlier to $546 million. Shares in the company fell by 2.6% in after-hours trading.

Discover is not the only U.S. card issuer that has recently been reporting higher losses, but it does serve as somewhat of a bellwether for the broader industry, since its business is heavily concentrated in credit cards.

In the first quarter of 2017, the Federal Reserve Bank of New York found that 5.9% of industrywide card loan balances were at least 30 days delinquent, up from 5.15% a year earlier.

“We never shot for, nor assumed, that we were in a 2% chargeoff industry," said Discover CEO David Nelms. "In fact, we would be leaving a lot of money on the table by shooting for that low.” Bloomberg News

“By the time that the industry figures it out, it’s probably going to be too late,” Ken Bruce, an analyst at Bank of America, lamented during Discover’s earnings call. “And we’re going to wake up with much higher losses.”

The rising losses are in part a byproduct of the growth the consumer lending business has enjoyed in recent years. In May 2017, there was $3.84 trillion in consumer debt outstanding in the U.S., excluding mortgage debt, an increase of $747 billion from just four years earlier, according to the Federal Reserve.

Consumers have taken on more credit card debt, but they’ve also stretched further for student loans, auto loans and personal loans. Now those bulging obligations are making it harder for some consumers to stay current on their plastic.

“If they get overlevered, they have a problem,” Discover Chief Financial Officer Mark Graf said during Wednesday’s conference call. “All the creditors tend to feel a little bit of that pain.”

Discover CEO David Nelms pointed a reproachful finger at competitors that have entered the personal loan business, a segment where Discover has a longer track record, suggesting that these firms lack sufficient understanding of the credit cycle. The newer entrants include marketplace lenders such as LendingClub and Social Finance, as well as banks like Goldman Sachs.

Nelms said that Discover credit card customers who have gotten personal loans from other companies have tended to stay current less frequently than their credit scores suggest they will.

“And so we adjusted our models to help compensate for what we think is a bubble of outside credit that is affecting us,” Nelms told analysts.

In response, Discover vowed to reduce the growth rate in its own personal loan business. But loan volume in that segment rose by 22% in the second quarter, as compared with the same period in 2016, which suggests that Discover could trim its sails and still expand its personal loan portfolio at a double-digit clip.

Discover’s strategy is similar in its flagship credit card business. Undeterred by five consecutive quarters of higher chargeoff rates, the company promised to continue to keep building its portfolio of loans to consumers with solid credit scores.

“I think that consumers and creditors were overly conservative a few years back,” Nelms said. “We never shot for, nor assumed, that we were in a 2% chargeoff industry. In fact, we would be leaving a lot of money on the table by shooting for that low.”

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Kevin Wack

Kevin Wack

Kevin Wack is a California-based reporter for American Banker who covers the U.S. consumer finance industry.