Have you ever looked at a product and wondered how in the world it makes the seller any money? Well, the Slate Card from Chase (JPM) is one of those products. It offers a 0% introductory APR on both purchases and balance transfers for 15 months and charges neither a fee for transferring a balance from another credit card, nor an annual fee. In other words, Chase incurs a significant cost in marketing this card, servicing its customers, and funding their loans without seeing anything in return for more than a year, at the very least. So, what does such a strategy tell us as investors?
Well, it would seem to indicate one of two things: 1) That the nation’s largest bank, based on outstanding balances, is desperate for the appearance of growth; or 2) That Chase is rolling the dice on a boom-or-bust revenue stream. Regardless of which theory you believe to be correct, from an investor standpoint, one thing is clear: Chase is having trouble expanding its credit card business, and that is worrisome.
As we all know, it is common for investors to track outstanding credit card balances and credit card default rates in the course of evaluating banks. Doing so not only enables us to get a sense of whether a given bank’s credit card division is expanding or not, but also to gauge its sophistication. You see, a bank’s default rate speaks to the accuracy of its underwriting, which is how well it recognizes and accounts for risk. The bank with the most sophisticated underwriting is therefore able to make more money than its competitors while taking the same risks.
By adding a whole bunch of “unprofitable” credit card accounts, however, Chase is artificially increasing outstanding balances, decreasing default rates, and therefore making itself seem more appealing to investors in the short term than it truly is.
It’s conceivable that Chase is merely dangling its catchy free balance transfer credit card offer in front of consumers in the hopes that it is the carrot that will lure a multitude of cash-cow customers for its profitable suite of bank accounts and loan offerings. In addition, Chase may hope that its credit cards may eventually turn profitable by having a significant number of Slate cardholders stick around for more than 15 months, which frankly is not likely.
I say this because we routinely see consumers whose whole strategy is to move from one 0% balance transfer credit card to the next. What’s more, while switching bank accounts can be a burden given the painstaking logistics that come with altering automatic monthly withdrawals and the like, switching credit cards isn’t all that tough.
The point is, while we all know that the cost of funds is almost zero for a bank of Chase’s size, the cost of procuring new customers and providing them with customer service is significant and cannot be ignored. Is it possible to make it back via cross-selling? Of course. Is it likely? Of course not.
Ultimately, neither of the explanations for Chase’s behavior that are available to us as investors are encouraging. Instead of trying to offer cards that lack any clear revenue streams, Chase should focus on resurrecting the profitable sub-prime credit card business that it inherited from Washington Mutual. You see, the sub-prime space has always been highly lucrative, and it’s expected to become even more so due to lack of competition borne from the Capital One’s acquisition of HSBC credit card business. Bottom line, investors should keep a wary eye on Chase’s credit card business in the coming weeks and months.
Editor’s Note: According to the Author,
Chase’s credit card business accounts for more than 10% of their non-interest revenue. This is significant enough for investors to pay attention.
About the Author: Odysseas Papadimitriou is a former senior director at Capital One and is currently the CEO of Card Hub, a website that helps consumers compare credit cards. Views expressed in this article are his own.
Editor’s Note: Recent events at JP Morgan and other financial companies has thrown greater light on the risks of investing in the financials today as they grapple with a lack of control and at times even lack of understanding of what the heck they are doing. This is a reason I advise investors today to stay clear of the financial stocks until their balance sheet is clean and credible. I have stayed away from making any stock recommendations in this sector to my premium subscribers.