Visa’s chief economist: Banks disintermediated by ‘massive increase in alternative lending’

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Fintechs that offer installment loans are having a major impact on credit card lending — and many card issuers are ill equipped to compete.

The clearest audience for those products, which allow consumers to shift some of their credit card balances to a fixed, unsecured loan at a lower rate, are the subprime cardholders who pay high interest rates on their credit cards. But these fintechs are reaching a far bigger segment of the population with their marketing, causing an impact felt across the credit score spectrum.

In 2010, fintechs held only about 1% of unsecured installment debt in the U.S., according to Visa analysis of anonymized personal loan data from TransUnion. But that number rocketed to 36% by 2017, and is estimated to have reached nearly 40% today, according to Wayne Best, Visa’s chief economist, at SourceMedia’s Card Forum, taking place this week in New Orleans.
To card issuers this looks like people are paying off their balances, a trend which could normally be attributed to a healthier economy. Best disagrees.

“A lot of this is coming from the disintermediation that we see,” Best said during his keynote presentation on Tuesday. In all, 5% of what would have been outstanding credit card balances have been consolidated on personal loans.

That part of the credit card market has now been disintermediated, Best said. “That’s a big deal.”

Some of the consumers driving this change may be young adults with little credit history because they favored debit cards, or didn’t have easy access to credit cards following the marketing restrictions of the CARD Act. But it would be a mistake to put all of the fintechs’ target audience into this one bucket.

“The fintech is having an impact on all credit scores,” Best said in an interview after his keynote. “Everyone thinks it’s only the millennials or the tech-savvy people. We went back and looked at who was making those movements and it was happening across all risk bands and all ages — including Boomers.”

Best has worked at Visa for 29 years, and has held his current role for 24 years. Best and his team, which is spread across the globe, work with Visa issuers and acquirers to provide insights into the economic changes happening to their industries.

“We’re seeing a massive increase in alternative lending,” Best said. He attributes this to the ease at which these fintechs have made it possible to move balances to their own products, such as through a mobile app or by partnering with retailers.

Some financial institutions are responding by partnering with or investing in fintechs so that they can gain some profit by sending customers to them, Best said.

Even if financial institutions don’t want to partner with or compete with these fintechs, they must at least be aware of the impact of this trend.

“When you as a consumer move a balance from credit cards … to unsecured installment credit, it doesn’t weigh as heavily on your credit score,” Best said. “Let’s say I was a near-prime customer prior; now, that has bounced me into a prime category.”

That consumer is now visible to financial institutions that target only prime customers, but nothing has really changed about that consumer’s creditworthiness, Best warned.

“That creates risk for financial institutions who think I’m a prime customer, but only because of how this … disintermediation is happening,” he said. “That’s a big issue because if you look at what happened back in 2016, there was a sharp increase in delinquencies that scared the market.”

Delinquencies shot up despite a healthy employment rate, Best said. One reason was financial institutions had been more aggressively targeting subprime customers, “but it was also this credit score upgrade that happened during this period of time,” he said. “We counted as many as 3 million people who had moved from one score band to two score bands higher — actually made a leap — and about 8 million that went one score band above it.”

Millennials, of course, are a target of fintechs offering installment loans. They see ads for the product on social media and are eager to move their balances to a loan that offers a lower rate. But that marketing reaches older demographics as well.

“Many people don’t think that Boomers are very tech savvy. They have computers and they know how to use them,” Best said. Boomers are more likely to view an installment loan as an option for a home renovation or a trip rather than a way to pay off their debt. But the care issuers are still feeling the impact.

“It’s not to say financial institutions aren’t also playing in this space, but it’s not growing as rapidly,” Best said.

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