This article appears in the May issue of Collections & Credit Risk.
Faced with a heavily saturated and competitive market, conventional creditors a few years back had set their sights on the "underserved" market. The relatively untapped group of individuals had been overlooked by creditors because a lack of credit history posed a bigger risk.
Creditors, credit bureaus and consumer advocates – eager to reach out to the underserved market – created a groundswell of support for alternative credit data sources and information.
Then, as billionaire businessman Warren Buffet put it earlier this year, the economy fell of a cliff. The housing bubble burst, unemployment soared nationally and consumer credit card delinquency rates spiked across the lending and credit-scoring spectrum.
So, in a world of elevated economic risk, where does this leave the supposedly risky underserved population? Are they any more risky than any other group?
If creditors can find a way to safely tap the underserved market, it still could prove lucrative. However, given the recession, creditors might determine they are just not worth it.
Ken Paterson, director of credit advisory service at Maynard, Mass.-based consultancy Mercator Advisory Group LLC, says the recession has affected the underserved population, but likely no more than any other population.
"A cutback in credit or a tightening of credit standards especially among credit card issuers, is across the board, really top to bottom of their portfolios," Paterson tells Collections & Credit Risk. "All issuers are being extremely cautious of how they manage credit across all types of accounts."
A few years ago, Paterson says, many creditors viewed the thin- and no-file population as a growth market because the rest of the market was fairly saturated. Creditors felt alternate data sources outside the mainstream of credit scoring could help them tap what was a "green field" opportunity.
"That was certainly in our conversations with issuers a few years ago. Many were experimenting with going a little further down in the credit score spectrum as well as testing out some of the new decisioning tools available for the thin-file market," Paterson says. "I think it is fair to say in the current credit environment that most issuers are not looking to expand in general."
Experian's Angela Baljeu, senior manager of emerging markets at the Costa Mesa, Calif.-based provider of credit reporting and marketing services, says thin- and no-file individuals represent a risk but how much more of one than anyone else is the question creditors need to answer.
"The way they see it ... how much risk am I willing to take on and can I find the thin-file/no-file people who represent a similar level of risk [as typical cardholders]. And the answer is, 'Yes I can,'" Baljeu says.
"However, two years ago I might have said I am willing to take on a 15% charge-off rate, but today it's more like 3% to 5%. When you think of the credit availability during the recession, [the underserved] may be more impacted as lenders are not willing to take on the risk right now," she says.
Consumers with thin credit histories continue to have a need for loans and they are applying as frequently as they have in the past, just as lenders continue looking for risk-mitigation tools to help underwrite loans to those consumers, says Chet Wiermanski, group vice president of analytics at Chicago-based credit bureau TransUnion LLC.
"Lenders are coming to us looking for alternative data uses and alternative underwriting tools – that continues to be an area of focus for lenders," Wiermanski tells Collections & Credit Risk. Alternate credit information can include payment histories for rent, utilities and cell phone bills.
"I would say, though, that compared to maybe two or three years ago, regarding the number of pre-approved solicitations, that thin-file consumers are being cut out of those programs," Wiermanski says.
Despite the risks, real or perceived, of granting credit to the thin- and no-file population, this segment of Americans may be just as lucrative as it was before the economy ran aground, according to industry experts. Account information and analytics are the keys to successfully welcoming this segment into the fold.
"The world is changing its view of what we have traditionally thought of as credit history. We have learned that because I have credit doesn't mean I have the ability to pay," Baljeu says. "So we start thinking, 'OK, what other ways can I assess this person's capacity and their willingness and their stability?' There is absolutely continued and growing interest in the industry around alternative sources and building those out is becoming better-funded and available."
Edmund Tribue, global practice leader for the risk management, fraud and operational efficiency practice at Purchase, N.Y.-based MasterCard Advisors, works with issuers to help ease their concerns as they navigate through the credit crisis.
Issuers are apprehensive about the underserved and underbanked markets because they are "experiencing massive losses on the heavily banked," Tribue says. "We try to help them understand how they can leverage other data sources, information and strategies to go after this population segment that can be very profitable."
Consumers who are in dire need of credit products are going to be coming to lenders given the economic situation. Lenders who are confident in their underwriting and assessment tools are going to continue leveraging those tools and looking for refinements, according to TransUnion's Wiermanski.
"At TransUnion, we are looking for ways we can blend our data with alternative solutions to make them available to our customers," he says.
The more proactive lender will look at traditional methods, such as credit scores, and will employ additional data sources for risk assessment, he adds.
Despite tightened credit, industry experts agree products meeting the needs of the thin- and no-file population remain available, such as prepaid cards, debit cards – and a hybrid of both.
Mercator's Paterson says this new program, what he refers to as a hybrid prepaid credit card, basically is a prepaid card but individuals also can apply for a short-term line of credit, which tends to be for small amounts – approximately $1,000. The consumer might be required to establish direct deposit to get a line of credit. The rates, he says, are relatively expensive but it addresses the underserved segment.
"We are hearing from some issuers in this space that they are seeing more interest from folks at higher income levels than they expected because [they have] damaged credit history, a bankruptcy and so forth," Paterson says. "They still need a card at the point of sale and would still like to establish or reestablish their credit."
Several years ago, Tribue was involved with a study where a large percentage of thin- and no-file consumers performed like a consumer possessing a 685 FICO score. The study brought to light the fact that someone with a thin file or no file does not necessarily mean they cannot manage credit, he says.
Tribue urges creditors to develop their own testing procedures to mine the underserved segment for credit-worthy and profitable customers.
"As you are developing the test, you have to experience some losses," Tribue says. "But you have to go into this segment to capture information that will help you create those profiles of what a profitable, underbanked or underserved [consumer] will look like."
Once this segment of the population is identified and offered prepaid cards or debit cards, for example, they can graduate to more mainstream products, he says, adding that this consumer with just a bit of a credit history now becomes a viable target for competitors.
Tribue says this segment has proven to be very loyal to institutions that have given them their first chance, so to speak, at credit.
"But you have to migrate them quickly into mainstream products with the right credit limit, the right annual percentage rate ... or you are going to lose them to a competitor because now they're no longer the unbanked or underserved," he says.
The population remains an untapped source of customers with profit potential for creditors, says Tribue. "Having the right tools and information to profile them, the right products to offer them initially and a very structured graduation plan are the keys to being successful in this segment." CCR