It used to be that European credit card securitization deals offered investors some respite from their riskier U.S. counterparts. The lower charge-off rates for European portfolios driven by mostly prime collateral stacked up well when compared to the U.S. portfolio mix of prime and nonprime collateral.
However, the landscape has shifted and market players say that, almost in a reversal of fortunes, U.S. paper now looks less risky than European deals.
"Higher interest rates, persistently high levels of unsecured debt, the leveling off of house prices, and higher oil prices have all contributed to the deterioration in the macroeconomic backdrop for U.K. consumers," where the lion's share of card issuance takes place on the Continent, explained Anca Badea, a Barclays Capital analyst.
According to Badea, European credit card ABS had historically been a very popular asset class with investors because of its relative structural simplicity and good performance, which had been better than in the U.S. However, over the course of 2005, the situation on the two continents began to reverse: European performance indicators dipped below those for the U.S. index. Charge-offs in the U.S. saw a sharp decline at the beginning of 2006 because of the post-bankruptcy law effects, bringing them down to historical lows. Meanwhile, European deals have experienced a gradual deterioration in performance - in the U.K., charge-offs have been growing continuously since the beginning of 2005. Fitch Ratings analysts said U.K. credit card charge-offs continued to rise through Q107, while excess spread fell further, even though performance deterioration across the sector has continued to slow.
"In terms of performance, we expect the market will plateau for the coming three to six months, but there will be some year-end improvements," said Chris Greener, director and ABS senior credit research analyst at Societe Generale. "The biggest impact to credit card ABS will be the reduction of the interchange fee, the charge issuers receive from retailers to process the payment during periods of reduced interest or interest-free months for the card holder," he added.
Currently, both the European Union and the U.K. regulator, the Office of Fair Trading (OFT), are considering reducing several of the penalty fees levied by card companies, which has prompted companies to begin looking elsewhere for financing. These recent changes haven't had any major impact on portfolio yields, as originators have found ways to make up for the loss of revenues by increasing other types of fees, such as balance transfer fees, said Badea.
According to the information service Moneyfacts, six credit card companies have been charged with increasing their fees - through interest rate increases, through the shortening of interest-free deals or by making certain conditions on card use - in an effort to increase their income now that traditional avenues have been cut off by new regulations. "This [could] lead to a greater migration to debit cards, thereby isolating the higher proportion of longer term borrowers who are riskier because they may run a line of credit on several lenders and then default on the repay or declare insolvency, with an individual voluntary arrangement (IVA)," said SocGen's Greener.
The added restrictions on credit cards, mixed with rising mortgages rates, local tax bills and higher energy costs, are leaving borrowers with a feeling that they should tighten their belts and keep the plastic in their pockets. Barclays' Badea said that outstanding credit card balances have been declining since the beginning of 2006, and this is reflected in some of the trust sizes in securitization deals. "This, combined with the weakening performance, and decreasing portfolio sizes explain the limited issuance that we have had from the sector year-to-date," she added.
To be sure, the sector has so far seen only one publicly placed double-B note issued that provides additional credit enhancement to an existing series, which is the Arran master trust. If there will be any issuance this year, say market sources, it will be driven by the refinancing of bonds that are being redeemed.
But there is some positive news on the European front. After months of reporting climbing personal insolvency rates, the tide seems to be turning. According to Fitch Ratings, the number of new IVAs is slowing, and the agency said that two major U.K. IVA issuers, Debt Free Direct and Accuma, had reported that their previous forecasts are likely to have overestimated profits, since there has been a slowdown in those debt repayment plans that are being processed.
"The agency continues to view the credit card sector as being in a stressed environment, and although some leveling off of performance is possible, it does not foresee the recent deterioration being remedied in [the short term]," a Fitch Ratings report said.
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