Banking analyst Meredith Whitney is credited with questioning assets on bank balance sheets given the collapse in the real estate market.
Taking advantage of a complete lack of information, Ms. Whitney triggered a massive collapse of trust in an industry by claiming that mortgage-backed securities were worth far less than what the market had perceived.
While she may have had a basis for her claims, her assessment was more sensational than factual. Mortgage-backed securities are quite complex instruments whereby loans are sliced, diced and packaged for sale to a global market.
With maturities extending 30 years into the future, it is unreasonable and unfair to assume that paybacks, even with high default rates will amount to what is currently priced into the market.
The lack of understanding of the underlying security or loans at the individual level has created uncertainty that has yet to be resolved.
For fans of the original "Star Wars" movie, think of the weakness in terms of attacking the Death Star. That one hole was exploited (we can debate the merits of doing so later) by Ms. Whitney and those like her.
Well, now Ms. Whitney is moving from one fire to the next. She is turning her attention to the credit card market.
Here it is expected that banks will suffer as credit card lines are withdrawn in efforts to reduce risk. In a statement today, Ms. Whitney said the industry will reduce credit by more than $2 trillion.
At a time when consumers are losing jobs at an ever-increasing rate, a reduction in credit is "dangerous and unprecedented," according to Ms. Whitney.
No kidding.
I'm not sure I would be so pessimistic. Even in a worse case scenario I don't expect default rates to come close to that level.
Credit card debt is quite different than mortgage-backed debt. Very high interest rates and fees for late payments and such allow companies that underwrite credit card debt to endure significant defaults.
Simplistically stated, five paying customers of equal debt amounts pay enough in interest to offset one default.
Going further, a late payment or two does not mean 100% loss for the credit card company. It may not amount to much, but there is recovery in some way no matter the situation.
Though prudent underwriting is a must, reducing credit doesn't make sense.
In fact, Federal Reserve Chairman Ben Bernanke often states that tight credit conditions helped fuel the Great Depression.
I find it hard to believe we will make the same mistake twice.
Anecdotally, it would appear that offers for credit have not changed since the credit crisis began. Sure, I'll buy into the idea that new credit will grow at a much slower pace, but to flat out pull credit at the level suggested makes no sense.
Capital One Financial (NYSE: COF) was down more than 21% on this news today. Shares now trade for less than $30 and are well off their 52-week high of $63.50.
I would be a buyer of COF on this weakness.
Ultimately, I think Ms. Whitney and her followers will be wrong about credit debt.
Jamie Dlugosch is a contributor to InvestorPlace.com.
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Reader Comments (Page 1 of 1)
12-01-2008 @ 6:59PM
tom said...
It's happening,a 735 credit score did not stop citi from pulling my flex line,11,000 went to 1,000, after paying off a 9,000 balance in 6 m0s. vs. 60. Granted it is citi and now I know why there in trouble
12-01-2008 @ 7:32PM
Richard Angle said...
A small re-write: Taking advantage of a complete lack of information, the banks triggered a massive collapse of prudence in an industry by claiming that mortgage-backed securities were worth far more than what the market had perceived. The bubble brought on by the reckless taking on of risk eventually brought both investors and banks to their knees. Soon to be prostrate.
12-01-2008 @ 8:54PM
stlboxmaker said...
These idiot would have given a goat a credit card a year ago. When and if they go under, there will be another bank to open. Money will be loaned at banks with good sense. If Walmart don't seel their merchandise they will go under. Same for the banks their merchandise is money. If they don't sell it at competitive price, good by bank.
12-01-2008 @ 9:20PM
Badabing said...
Read a book call Zeitgeist (on line video too), about how the banks did exactly what is happening now and caused the Depression so a few major banks and wealthy trusts could gain control and buy back everything cheap. When I was given the book, I thought it was BS, but now its happening before my eyes, especially the credit tightening crap. I also have a great credit score, pay on time and got my Visa limit reduced by 50%.
12-02-2008 @ 9:30AM
BHarrison said...
I find the title term "fear mongers" to be laughably amusing.
With all of the economic havoc that has been wrought now flowing over into the credit card industry, one is to be labeled as a "FEAR MONGER" if one becomes concerned and takes prudent actions to protect their own best financial interets?
If credit has been over extended to too many people who cannot repay their credit card indebtedness, then certainly "adjustments" have to be made. I have $15K - $30K credit limits on various credit cards; but we pay all of the charges on a monthly basis. If they reduce my "credit limit" by 50% that is meaningless to me. The credit limit is only important to those who are "living off of their credit cards or looking to make major purchases to be financed. (Why would anyone "finance" such "major" purchases at 18% to 20% or more?)
yes, credit cards are important ot keep the economy flowing; but that is ALWAYS limited to people not being given more credit than they can repay. Those who do pay "interest charges' wind up paying for those who default . . . it's the same as what happened with those who purchased homes that they could not afford.
The lesson in all of this is that we, the "good people" who pay our bills wind up "footing the bills" for those who default on their payments . . . THEREFORE, I have ABSOLUTELY NO EMPATHY or SYMPATHY for people who irresponsibly spend more than they earn, and become the DEAD BEATS of our society.
Now this has culminated into a sitution where even "good people" are becoming unemployed due to the "dead beats" of our previous "prosperous time". The bottom line is that there has to be personal accountablility for what people do to avoid these types of catasrophes, that are "man made" by irresponsible greed.
So, when someone brags about "how they beat the system", just remember that YOU are probably paying for their "crimes" and deceptions.