Is Another Financial Bubble in the Cards?
Sharon L. Secor
December 17, 2007
Even as the shock waves of the sub-prime mortgage meltdown are still shaking the foundations of the American economy, rumbles are beginning to be heard of another market rocking event on the horizon. It seems that another bubble may soon burst, its fragile surface already showing the signs of a slow leak due to hits taken from the foreclosures crisis fallout. Credit cards are beginning to show weakness, and with $920 billion in credit card debt held by Americans, trouble in this market has the potential to be just as traumatic for the markets as the sub-prime mortgage meltdown, following a similar road to the bottom.
Several of the nations biggest banks have expressed concern about the trends in consumer credit card spending. American consumers are spending more than they earn, carrying record setting levels of debt. Meanwhile, savings are at their lowest point since the Great Depression. While these conditions are not new, there have been indications of change in the handling of these high debt levels by consumers that some analysts find troubling. Credit card issuers have begun to notice an increased use of cash advances, smaller payments made against account balances, and a creeping rise in defaults.
Some of these changes can be attributed to the effects of the housing bubble burst and sub-prime lending crisis. During the long period of inflating home values and the boom in mortgage lending, many consumers borrowed against home equity to pay down credit card balances. This avenue of debt relief is no longer available for many consumers, as falling home values have reduced home equity and tightening lending standards have made such loans less available. Also contributing to the weakness in the credit card market are consumers who are financially stressed by rising mortgage payments, causing many to make smaller payments against balances, or to accumulate more debt on their credit cards while struggling to avoid mortgage default or foreclosure. Of course, consumers that have lost their homes to foreclosure are quite likely to default on credit card payments in the midst of such financial chaos, and many will file bankruptcy.
These indications, which many experts feel may be the early signs of trouble in the credit market, have caused some leading US banks to take precautionary measures. For example, Citigroup recently announced that they would be putting $2.24 billion away to offset potential consumer defaults, along with their quarterly earnings report, which reflected a decline of 57 percent. American Express and Bank of America have reported similar news of poor earnings, the worst since 2001, and large reserves against default are being tucked away by these institutions as well.
Credit card debt has become an investment vehicle in today's financial markets, packaged into securities backed by credit card receivables. Should there be widespread credit card defaults, the impact would spread throughout the economy as these investments lose value, in a pattern quite similar to the progression of the sub-prime meltdown. However, a key difference between these two situations is that credit card debt is unsecured, making default a complete loss for these investors, unlike mortgage securities where foreclosures can recover at least a portion of the balance. Ironically, these credit card backed securities have become more popular recently, seen as an alternative by many investors to the troubled mortgage backed securities market, accounting for 45 percent of the asset-backed securities sold in October 2007.
So, as the global economy suffers from the still unfolding crisis in the mortgage market, yet another financial bubble could be in position to burst. It seems that many have failed to heed the warnings that were inherent in the mortgage meltdown, as consumers continue to spend more than they can afford, and investors flock from one risky, debt based investment to another. Those that can would be wise to to take steps now to avoid having to struggle to pick up the pieces after after yet another burst bubble.
Several of the nations biggest banks have expressed concern about the trends in consumer credit card spending. American consumers are spending more than they earn, carrying record setting levels of debt. Meanwhile, savings are at their lowest point since the Great Depression. While these conditions are not new, there have been indications of change in the handling of these high debt levels by consumers that some analysts find troubling. Credit card issuers have begun to notice an increased use of cash advances, smaller payments made against account balances, and a creeping rise in defaults.
Some of these changes can be attributed to the effects of the housing bubble burst and sub-prime lending crisis. During the long period of inflating home values and the boom in mortgage lending, many consumers borrowed against home equity to pay down credit card balances. This avenue of debt relief is no longer available for many consumers, as falling home values have reduced home equity and tightening lending standards have made such loans less available. Also contributing to the weakness in the credit card market are consumers who are financially stressed by rising mortgage payments, causing many to make smaller payments against balances, or to accumulate more debt on their credit cards while struggling to avoid mortgage default or foreclosure. Of course, consumers that have lost their homes to foreclosure are quite likely to default on credit card payments in the midst of such financial chaos, and many will file bankruptcy.
These indications, which many experts feel may be the early signs of trouble in the credit market, have caused some leading US banks to take precautionary measures. For example, Citigroup recently announced that they would be putting $2.24 billion away to offset potential consumer defaults, along with their quarterly earnings report, which reflected a decline of 57 percent. American Express and Bank of America have reported similar news of poor earnings, the worst since 2001, and large reserves against default are being tucked away by these institutions as well.
Credit card debt has become an investment vehicle in today's financial markets, packaged into securities backed by credit card receivables. Should there be widespread credit card defaults, the impact would spread throughout the economy as these investments lose value, in a pattern quite similar to the progression of the sub-prime meltdown. However, a key difference between these two situations is that credit card debt is unsecured, making default a complete loss for these investors, unlike mortgage securities where foreclosures can recover at least a portion of the balance. Ironically, these credit card backed securities have become more popular recently, seen as an alternative by many investors to the troubled mortgage backed securities market, accounting for 45 percent of the asset-backed securities sold in October 2007.
So, as the global economy suffers from the still unfolding crisis in the mortgage market, yet another financial bubble could be in position to burst. It seems that many have failed to heed the warnings that were inherent in the mortgage meltdown, as consumers continue to spend more than they can afford, and investors flock from one risky, debt based investment to another. Those that can would be wise to to take steps now to avoid having to struggle to pick up the pieces after after yet another burst bubble.
Print
Email
