Navigating Turbulent Times

How technology, data, and analytics have protected credit cards from a financial storm.

At the beginning of the year, articles and news reports were already warning about an impending credit card crunch, with the suggestion that the credit card industry would fall to a fate similar to the mortgage industry. It didn’t happen. That doesn’t mean that the industry is without potential pitfalls. In the third quarter of 2007, credit card balances increased by 7 percent, on an annualized basis, compared to the average annual increase of 2 percent over the previous six years, according to the market research firm TowerGroup. And that was the beginning. Consulting firm Innovest StrategicValue Advisors predicts that banks will charge off $18.6 billion worth of credit card receivables in the first quarter of 2008 and $96 billion in 2009, representing a 261 percent jump from 2007 and a 131 percent jump from the amount expected by the end of 2008.

Originations, meaning new account growth, are also on the decline.

“Just overall there is some declining origination growth and tightening of lending standards,” says Linda Haran, senior director of solutions marketing and management at Experian.

But credit card issuers have been on alert, using predictive analytics to aggressively monitor their businesses and relying on their technology to adjust business rules in ways that will help them ride the shifting tides adeptly.

Finding New Customers

Indeed, the decline in originations is not only due to market circumstances but also attributable to cautious strategies of card companies.

“If they are taking in additional accounts right now they are carefully tailoring the right products to them,” Haran says. “They are targeting the right customers to convert on the books and drive revenue. Every new acquisition needs to have value in maximizing capital dollars.”

This may mean using several types of analytical products in concert. In Experian Decision Analytics’ case that may include Marketswitch Optimization, a mathematical decisioning solution to set credit terms and pricing at origination, or Strategy Management, a business rules engine that can assess the full potential value of customer relationships across the enterprise and support decisions to maximize those relationships. In addition, the company’s STAGG Attributes identifies predictive credit attributes and includes more than 440 available credit attributes to support strategies. This is noteworthy as clients tend to increase the number of attributes they consider for each prospect in more cautious times.

 

Others in the credit card industry note that on the acquisition side a cautious attitude has meant companies are focusing more on cross-selling with their existing customer base than on looking to outside prospects.

“When you cross-sell to your customer base you are targeting a known entity. Rather than relying on credit bureau information you are looking at the relationship you have with a customer, and can spot changes in how the customer has handled other parts of the portfolio that make up that relationship,” says Randy Barker, a senior consultant with Microsoft partner CSC’s National Financial Services Practice.

Jim Sheahan, vice president of issuing solutions with Microsoft partner Metavante, notes the stepped up interest in cross-selling as well. As many of Metavante’s clients for full service outsourced credit card processing tend to be community and regional banks, cross-selling has always been a strong focus, with a limited amount of new acquisitions. That emphasis has been heightened since credit problems first surfaced in the marketplace.

“It has always been a cross-selling type strategy but in many, many cases they have tightened up their policy,” Sheahan says. “There’s tighter lending, smaller lines and tougher qualifications. While in most years we see some efforts to acquire new customers, most have not dabbled much in doing direct mail outside their customer base this year. We haven’t seen outside solicitations as firms tighten up their standards.”

Reassessing Existing Customers

While firms may be pulling back on acquiring new customers, some in the industry say they’re seeing
companies spending extra to more proactively track the customers they have.

“When it comes to existing portfolios, we’re seeing clients using technology to rescore their portfolio, meaning taking

 their current card holders and running through to see where they stand in terms of risk,” says Vinnie Calo, president of Fiserv Credit Processing Services. Fiserv is a Microsoft Gold Certified Partner. “They’re pulling credit bureau reports sometimes for ten thousand customers and that isn’t cheap, but they’re reviewing their risk tolerances.”

Calo says he also sees clients looking more carefully at predictive analytics and it might not necessarily be defaults in other relationships that they are looking for. Signs such as customers who have begun paying utility bills with credit cards may be an early indicator that an account should be watched carefully, he says.

John Focht, president of issuing solutions at Metavante, notes that with clients for whom credit cards are part of a cross-selling strategy, tightening might mean looking at the whole portfolio and assessing where to tighten the relationship.

 

“Tightening the way the portfolio is managed might mean adjusting rates or credit limits relative to other accounts and products,” he says.

Adds Metavante’s Sheahan, “We are definitely seeing bigger monthly balances now. Clients are using Fair Isaac-type tools to tighten risk levels.”

Metavante issuing solutions’ core base of community and regional banks generally does better in down times because they have relationships with customers on many fronts. But some banks are adjusting their thresholds, so that where they may have previously begun contacting customers who were 30 days past due, they might now have moved that limit up to 15 days. This type of tightening might also mean a halt on the use of past due cards that might come earlier in the cycle than it once did, Sheahan says.

“It’s a very dynamic market,” adds Experian’s Haran. “We are trained to look at past behaviors as indicators of the future but some of those trends are changing. We have seen customers who used to pay their card before their mortgage now doing it the other way around, and we’ve seen prime customers with historically good credit going delinquent.”

Haran says Experian has encouraged clients to take in more attributes, such as geographic footprints of parts of the country that are particularly troubled. Experian also encourages the use of bankruptcy profiling products for its clients’ existing customer bases as a way to spot risk areas early.

Meanwhile, CSC’s Barker notes that the technology is available for profiling and predictive analytics to be as detailed as anyone could possibly need, but issues such as privacy come into play.

“At the end of the day, when it comes to profiling specific locations and merchants it goes into privacy concerns so it’s not something companies are going to want to be doing,” he says.

The Delinquencies

For managing those segments of customers that have made the progression from risky to troubled, Experian’s Haran predicts an increased emphasis on recovery and the use of data analytics in the recovery space.

“Collections are going to become of interest to credit card companies,” she says. “With delinquencies trending upward, companies are going to try to understand what will help them in the collections area.”

Haran says Experian has several tools that score behaviors and attributes to help prioritize both the accounts that are most likely to be responsive, as well as the techniques that are most likely to provoke responses for different default scenarios.

“We have a recovery score that I’d advocate the use of, but I’d also advocate the use of a bankruptcy score in the recovery and collections area,” she says. “If you have an indicator that a customer in workout is about to file for bankruptcy, that’s important information.”

Firms are definitely more proactive in working with customers, according to Barker.

“They are offering options like a one-time fee waiver, delaying billing for a month or reducing minimum payments. There are a lot more options coming at people when they miss a payment,” he says.

Internal Efficiencies

A silver lining to challenging times is that it forces firms to streamline, and those firms that come out of the lean years turn out to be leaner, meaner and better positioned to compete for the opportunities that lie ahead.

“A lull in activity is a good opportunity to look at streamlining from an operational standpoint,” says CSC’s Barker. This may mean making efforts to consolidate the management of different accounts held by the same customer, or it may involve seeking ways to reuse technology or use the technology that is already in place more effectively, he says.

“It might be about bringing a barely used system to the forefront, or on the IT side there could be a movement to lower cost technology,” an area where Microsoft could find opportunities to make greater inroads, he says.

As providers of complete outsourced services, Metavante and Fiserv can offer a value proposition to their customers. With outsourcing, the cost of credit card processing is more quantifiable, and costs of certain processing functions might be lower because of the service provider’s economies of scale.

CSC’s Barker notes that full-service outsourcing offerings can yield cost savings when it comes to upgrading technology or conforming to industry standards. He points to the PCI (Payment Card Industry) standards, which were designed to help credit card issuers prevent credit card fraud and identity theft, as examples of standards that might present compliance challenges for smaller banks.

Modern Fraud Sleuthing

While dealing with shifting economic markets and consumers under financial pressure, lenders must also continue to keep a watchful eye on another ongoing and evolving threat: fraud.

“There has been a dramatic shift in the types of fraud occurring during the 18 years I’ve been involved in the payment

 card fraud area,” says Stephanie Cook, vice president of payment solutions and fraud manager for Metavante. “Traditionally, the majority of credit card fraud could be attributed to lost and stolen cards, with counterfeit and other fraud types making up the difference. Now we are seeing just the opposite.”

Cook estimates that fraud attributed to lost or stolen cards used to make up 60 percent of total credit card fraud losses. “We’ve seen fraud shift from opportunistic to organized. Counterfeit and Internet or card-not-present fraud now account for the same amount of fraud we saw as a result of lost or stolen cards. There has been a complete reversal,” she says.

While lost or stolen card fraud generally involves one card number at a time, counterfeit fraud can result in much larger losses if not spotted quickly. Hackers and other perpetrators have obtained full magnetic stripe information through security breaches and then sold that information online in underground chat rooms. In these sophisticated underground markets, the price for data can vary depending on whether there are card numbers only, full magnetic stripe, or PIN data for sale. They can also be sorted by type and expiration date. Platinum cards might be priced higher than other product types because credit lines are generally much higher. Likewise, cards expiring farther out might also demand a premium, Cook says.

Spotting fraud today requires much more sophistication. Detection systems need to use detailed profiling to determine any type of anomalous behavior – profiling that can be used to spot a single lost or stolen card, as well as more wide scale intrusions. Different clients may have varying tolerances as to how quickly they want to put a temporary block on the use of a card once the activity is identified.

“We provide a multi-layered approach to detection, including neural network technology and rules-based algorithms that help identify the type of activity a client wants to flag.” In addition, fraud systems that look across the enterprise can help issuers identify the more sophisticated fraud types, Cook says.

CREDIT CARD STATISTICS AT A GLANCE

■ In July approximately 65 percent of domestic banks indicated they had tightened their lending standards on credit card loans over the past three months, up sharply from 30 percent in April. – The July 2008 Federal Reserve’s Senior Loan Officer Opinion Survey on Bank Lending Practices.

■ In June 34 percent of U.S. cardholders say they spent less on discretionary expenses, such as eating out or shopping at the mall; 46 percent say they spent less on major purchases, such as appliances or furniture. – CreditCards.com “Taking Charge” survey.

■ In the first quarter of 2008 consumer bank card delinquencies rose 13 basis points to 4.51 percent. This is above the five-year average of 4.40 percent. – The American Bankers Association.

www.metavante.com
www.fiserv.com
www.experian.com
www.csc.com