(Bloomberg) -- US President Donald Trump's efforts to cut interest rates on credit cards could force lenders to cough up more money to support bonds they've sold backed by the debt, weighing on their profits, while also cutting into new issuance of the bonds.
Trump last week demanded that credit card companies cap the interest rates they charge at 10% for one year, and later said that companies that ignored him would be "in violation of the law."
Many banks and finance companies bundle their credit card loans into bonds and sell them to investors— there's a $70 billion market for the securities. If the income from those loans is too low, the lenders can be forced to take steps like injecting capital into the trusts that issue the bonds, or to use payments on the loans to start paying the bonds down, known as early amortization.
In 2009 during the global financial crisis, most bankcard companies injected capital into their securitizations and sold loans to the trusts at lower cost,
For now, investors aren't overly concerned: the additional yield that investors demand as compensation for the risk of owning these securities has barely moved since the president floated the cap last Friday, according to market participants.
A cap, however, would hurt bond investors. For bonds backed by bank-issued credit cards, the 10% cap would cause a key measure of bond income — called excess spread — to drop to levels similar to those seen during the global financial crisis, according to the
Bonds backed by credit card debt tied to riskier, "nonprime" borrowers would fare worse, according to
'Very Exposed'
The credit card asset-backed securities market would be "very exposed" to such a ceiling, according to Daniel Schaeffer, a trader at Academy Securities. "A cap would cut out a significant number of borrowers who are currently paying rates between 10% and usury-level rates in the 30-50% range, especially bonds backed by lower-tier consumers."
Faced with a cap, the market would likely shrink over time. Fewer firms would look to securitize credit card debt, leaving less for investors to snatch up. Credit card debt has already declined as a share of the overall ABS market, making up 9% of total issuance compared with 36% at its peak in 2009, according to data from Morgan Stanley.
"Issuance of credit card ABS will go down as lending will go down because banks would avoid high-risk borrowers and tighten lending rules," said Harry Murray, a portfolio manager at Deer Park Road Management. Generally, there's been little trading activity as investors wait to see whether such a move is possible, he said.
Bank executives have been vocal about what they see as the impact of caps on their industry. On Wednesday, Brian Moynihan, chief executive officer of Bank of America Corp., said that "If you bring the caps down, you are going to constrict credit." Mark Mason,
In the meantime, new issuance of credit card ABS and secondary trading "will likely be limited" until investors get more clarity,
The lack of movement in the bond market contrasts with the equity world, where investors have hammered shares of banks and credit-card issuers, including Mastercard Inc., Capital One Financial Corp. and American Express Co.
A 10% rate cap on credit card interest would be negative across the board for credit card bonds, according to Moody's Ratings. However, Moody's also said putting a cap in place may be difficult for the administration to do.
(Updates with detail from
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