The stock market was having a strong day on Tuesday, with the Dow Jones Industrial Average and S&P 500 benchmark index both up by more than 1% as of 11 a.m. EDT.
As a whole, the financial sector isn't a standout. The Financial Select Sector SPDR ETF (NYSEMKT:XLF) was up by about 1.5%, outperforming the market, but not exactly by a huge margin. On the other hand, Capital One Financial (NYSE:COF) was higher by more than 5% on the day.
The reason: The difference between Capital One and other major banks is that it is largely focused on credit card lending. Credit cards are one of the riskiest forms of debt for lenders; during great economic times, default rates of 3% to 5% are common for credit card loans, as compared with well under 1% for auto loans and mortgages. Plus, credit card debt isn't backed by an asset like a home or a car that the lender can repossess.
During tough times, credit card defaults can get ugly. At the peak of the financial crisis, they jumped into the double digits, which led to big losses for banks.
For the time being, government support should help mitigate the problem, which is why we've seen Capital One's stock price rise by nearly 70% since the lows. Between the stimulus checks that continue to be sent out, enhanced unemployment benefits for individuals, and the Paycheck Protection Program (PPP) loans and other help being given to businesses, consumers may not have as much trouble paying their bills as you might expect -- for now. But these are all temporary measures. For example, the PPP loans have a finite amount of funding and the $600 weekly unemployment boost is set to expire at the end of July.
In simple terms, if we can get back to business before government support runs out, it could be a great catalyst for credit card lenders.
Other credit-card focused stocks were higher as well today. Discover Financial Services (NYSE:DFS) was up by about 4% and American Express (NYSE:AXP) was nearly 3% higher. Credit card debt is likely to perform very poorly if the economy remains shut down for months. On the other hand, the sooner consumers can start earning money again and the economy gets back to normal, the better the chances that a wave of credit card defaults can be largely avoided.