Next month is huge for the financial industry. The panic that began last year is certainly over, but the real test -- curbing losses and returning to profitability -- will face its biggest assessment next month, when most banks and credit card companies report third-quarter earnings.
Discover Financial (NYSE:DFS) gave us a sneak peek yesterday, and while things could have been worse, they weren't terribly encouraging, either.
Third-quarter net income came in at $577 million, or $1.07 per share, up from $0.37 in the same period last year. The recent quarter's results include a big $287 million one-time bonus from a litigation settlement with Visa (NYSE:V) and MasterCard (NYSE:MA), so more normalized earnings are about half the headline numbers.
But to get down to the heart of what's important in the credit card industry, we have to focus on delinquency and default rates.
Discover's default rate came in at 8.39%, up from 7.79% in the prior quarter. That's high, of course, but it actually fares well compared to competition. Citigroup's (NYSE:C) August default rate was more than 12%. Bank of America (NYSE:BAC) is struggling to hold on with a whopping 14.54% default rate. This isn't a fun time to be in the credit card business.
More important is the delinquency rate. As a precursor to actual losses, investors have to keep a close eye on delinquencies to judge potential future, not just current, health.
Ninety-day delinquencies came in at 2.6%, a slight improvement from the 2.73% in the second quarter. But the 30-day delinquency rate inched slightly higher, to 5.10%. That isn't too encouraging because to really expect the future loss rate to come down, you have to see a dramatic improvement in early-stage delinquencies. The more people struggle to pay their bills today, the more will be outright defaulting tomorrow.
What it all comes down to is unemployment. While the economy stopped falling off a cliff, joblessness is still a brutal problem. Even when Ben Bernanke recently claimed the recession was probably over, he simultaneously warned that "unemployment will be slow to come down. It will come down, but it will take some time."
As long as that's the case, it's going to be rough going for credit card companies. Easy as that.
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