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Auriemma 2019 Annual Letter: Year in Review and What’s Coming in 2020

December 2019

Welcome to the 2019 version of our annual market update. I wrote the first such letter thirty years ago, in 1990! My, how times have changed.

While we typically talk about industry happenings and then pivot to updates in our own company, we are going to turn that around this year. I think you’ll agree it adds a bit of perspective to this year’s commentary.

Despite the negative connotation implied by Juliet when she proclaimed, “A rose, by any other name would smell as sweet,” I think it is a fitting quote to describe the state of all things “Auriemma.” Last year, I told you we were changing our name by dropping the word “Consulting.” Well, we did that. But then we did more. Many of you have heard the news by now. But, I know not everyone received, or read, our email communications in August.

While we were wrapping up the process of our name change in late 2018 and early 2019, we were also beginning a process to bring on some outside investment in order to expand and improve our offerings to the market. That effort was consummated on August 1st. As a result, we split into two companies… Auriemma Roundtables, which will operate our US Roundtables practice, and Auriemma Group, which will operate our Partnerships, Research, and Finance lines of business, as well as our UK Roundtables.

Two new presidents have been named. Tom LaMagna for Auriemma Roundtables and Mark Jackson for Auriemma Group. Both have been part of our team for many years and have been gearing up and being groomed for these appointments. I’m excited to pass on the baton(s)!

With that as the backdrop, here are some of the stories and trends we’ve been tracking and expect to continue into 2020.

This was a strong, but mixed, year from a macroeconomic perspective. In the U.S., the Dow hit record highs this year, and the U.S. added 266,000 jobs in November, outpacing predictions. U.S. unemployment is at a record low, and there may still be room for growth, given that labor force participation remains below pre-recession levels. It’s a similar picture across the Atlantic, with UK employment at record highs and a healthy growth in household spending, thanks to stronger wage growth.

Other factors, however, lead to a more uncertain economic picture. The Federal Reserve cut rates three time this year. Trade tensions are impacting business and consumer confidence. Business investment has slumped due to global economic slowdowns and uncertainty about the outcome of the U.S.-China trade war. Consumer credit increased at a seasonally adjusted annual rate of 7.7 percent in October, while revolving credit increased at an annual rate of 10.7 percent, and non-revolving credit increased at a 6.7 percent annual rate, according to ABA Banking Journal. In the UK, the number of job vacancies have started to fall in 2019, and the number of jobs created have decreased, indicating the labor market is potentially cooling. But with many consumers shrugging off the negative indicators the industry pores over, I tend to agree with Michael Corbat that the biggest threat to the economy might be talking ourselves into the next recession.

For their part, industry leaders are thoroughly prepared, with many anticipating a mild recession in the next 12 to 18 months. Clients are interrogating key internal metrics to discern false signals from true indicators, including changes in payment ratios, minimum payment frequency and early delinquency rates. Many are already tightening on credit exposure in some portfolios, and anticipate some future tightening going into 2020. Recession playbooks for pricing, term adjustments and collections/recovery strategies are in place—although triggers have not yet been tripped. Indeed, predicting the future recession appears to be more art than science, with many questioning if the typical indicators – unemployment, for example – are really the ones to be watching in the upcoming cycle.

Delinquencies, a traditional indicator, are slightly on the increase for credit cards. However, the future direction of travel is anyone’s guess. This is clear in the fact that just over half (56%) of issuers in Auriemma Roundtables’ Card Collections group expect an increased delinquency rate going into 2020. The other half expect delinquencies to be flat or down next year. Certainly, nothing in the data reflects systemic alarm or anything fundamentally surprising. In fact, delinquency levels are aligned with industry expectations, based on vintage and composition of portfolios. Additionally, because of the lessons learned from 2008, there’s a more cautionary approach to underwriting in this pre-recession era, and fundamental exposure is more limited than in the past.

Delinquencies for auto lenders have increased steadily across all credit tiers in 2019, although the bulk of delinquencies are unsurprisingly in subprime. The increase is a byproduct of strategic decisions to expand acceptance criteria, rather than an indicator of broader market conditions. To underscore the point, 75% of Auriemma Roundtables’ Auto Collections group members say 2019 net credit losses are below forecast, showcasing the success of collections operations and loss mitigation programs.

What remains to be fully seen is any impact that could be felt amid a downturn if the CFPB’s proposed debt collection rules go into effect, which would cut the number of call attempts per day for most lenders and collectors. In preparation, many first-party collectors are ramping down their call caps and deploying self-service and digitized collections tools. With a potential recession and this proposed regulatory action, the stars are aligning to make investments in more strategic contact management.

This proposed rule represents one of the more significant pieces of proposed legislation from the Bureau, which has been quieter than in years past. (Of course, that posture could change yet again, depending on the outcome of the next election.) While the industry has seen fewer big-ticket enforcement actions from the CFPB this year, there’s concern of growing coalitions among state AGs and legislators who are working to fill the perceived regulatory void. For example, state litigation is attacking banks’ preemption and rate exportation rights, which will need to be solved by federal legislation supporting the concept of “valid when made.” There has also been tremendous scrambling to comply with the data-centric California Consumer Protection Act, which goes into effect January 1 and could very well be adopted by other states going forward.

The U.K.’s regulatory scene has been quite active: Persistent Debt is causing waves, GDPR has claimed its largest big-ticket enforcement actions to date, and the deadline for compliance with PSD2 has passed with several FIs not fully compliant. Of course, there are the results of the UK’s general election – a sweeping win for the Conservative party, signaling an imminent departure from the European Union. The pound surged in trading against the dollar and the euro in response to the vote. Businesses will be working through operational challenges associated with an 2020 exit, and consumers could respond to uncertainty with changes in spending, saving and a potential shift from credit onto debit. A no-deal Brexit could be bad news for jobs, wages or both. Certainty, in any guise, is likely still months away.

Overall, it’s been a strong year for credit card lenders. While falling interest rates may have squeezed fixed-rate lending, credit cards have held strong as an asset class, helping fuel the industry’s solid financial results this year.

Additional positive news: Year-to-date gross and net fraud rates have remained stable, with the average gross fraud rate at 0.27% and the average net fraud rate at 0.13%, according to Auriemma Roundtables’ Card Fraud Control benchmarking. Meanwhile, 85% of Roundtable members reported a flat or decreasing gross fraud rate between FY ‘18 and YTD ’19. As EMV cards have become ubiquitous in the marketplace, the security benefit of the technology has been realized and is reflected in the normalization seen within the distribution of fraud types.

While fraud losses have stabilized, fraud remains a painful reality to consumers, with data breaches and the associated financial ramifications becoming routine. The everyday nature of fraud means consumers are often not proactive in taking preventative measures, with more than one-quarter of cardholders feeling comfortable making online purchases from unfamiliar websites, and more than four-in-ten of cardholders reporting that they haven’t changed the password for their debit or credit card account in over a year, according to Auriemma Research. Other precautions, like fraud alerts, identity theft protection, and two-factor authentication are not overwhelmingly used by consumers, according to the research. (Incidentally, this kind of irrationality is exactly what Auriemma Roundtables is looking to understand in its Behavioral Economics Initiative with Duke University’s Center for Advanced Hindsight – a joint venture focused on identifying opportunities to shift consumer behavior for more positive financial outcomes.)

Of course, the Auriemma Group team has remained active in the co-brand arena. As I shared last year, marquee co-brand deals have slowed in 2019, thanks to the increasing prevalence of long-term program contracts. We expect 2020 will be more active, with many programs preparing to go to market. Certainly, 2019 saw pockets of action – including several de novo airline programs (Air Canada, Emirates, and Norwegian Airlines) and an increase in mid-contract negotiations. The opportunities for card issuers during this period of reduced market activity tend to revolve around focusing more closely on existing programs. For some, this includes testing innovations – such as installment payment plan offerings, omnichannel experiences, and data analytics insights. Brands also have opportunities to keep programs fresh by regularly revisiting key program features, such as value propositions and marketing approaches. Meanwhile, with the challenges in the current retail environment, we’re also seeing a diversification within the private label space, with brands moving toward POS installment lending and issuers offering other lending categories, such as medical financing.

Of course, there were new cards, too – perhaps most notably, the Apple Card, which debuted this year to tremendous buzz. (An introductory video for the Apple card uploaded in tandem with its late-March announcement has racked up more than 25 million views… easily more than ten times the number of views for similar videos for other cards.) Although Apple obviously offers a physical card, the product’s core value proposition has been specifically designed to increase usage and adoption of its mobile payment capabilities. As with many mobile offerings, it’s still unclear how successful Apple’s push will be.

Despite the rumors of its inevitable demise, plastic has continued to thrive during the dawn of mobile payments. Some argue that the increase in contactless card availability may actually migrate some mobile-friendly consumers back to physical payments, according to Auriemma Research. This year, contactless  made a meaningful push to mainstream acceptance in the U.S., thanks in part to major transit systems’ acceptance. While it’s not exactly a new technology, the POS experience seems to have improved drastically from previous incarnations.

The simplicity of contactless’ tap is just one example of a customer experience making or breaking a technology. More broadly, a crisp and easy experience has paved the way for an influx of fintechs to sweep both the U.S. and U.K. markets. In the U.S., the unsecured personal loan market continued its dazzling growth, led largely by digital-first fintechs. In e-commerce, snazzy POS financing options like Klarna and Affirm are increasingly popular with consumers who find that borrowing via an installment plan is less intimidating than revolving on a credit card. In the UK, a wave of Challenger Banks, such as Monzo, have developed budgeting tools that are deeply appealing to consumers. Fintechs are eager to garner more market share and have started diversifying into credit cards and other products, such as auto lending. To fuel this growth, fintechs have been bullish on the use of non-traditional data sources, such as utility or cellphone payment information – particularly when scoring consumers in deeper FICO bands or with thin files.

As more data enters the ecosystem however, there are some uncertainties emerging about the integrity of credit reporting. While the vast majority of available information is accurate, reporting complexities and fraudulent consumers are potentially leading to some credit score inflation. In addition, new commercially available scores and alternative data providers will have an unclear impact going forward. To address the reporting complexities, Auriemma Roundtables has spearheaded initiatives with both the CDIA and credit reporting agencies to identify opportunities to improve reporting standards and clarify business processes.

Also distorting the credit reporting environment? An upswing in credit repair agencies enticing consumers to attempt to eliminate or transform negative credit history – often without consumers being fully aware of the process (something the CFPB has taken notice of). It will be crucial for the industry to partner with regulators, such as the FTC and CFPB, to counter predatory players.

While lenders are focused on risk mitigation of all kinds, 2019 has also brought ample opportunities to invest in operational efficiency and automation—areas where both Auriemma Group and Auriemma Roundtables continue to focus energies.

Automation has been more fully deployed in 2019, with speech analytics, AI, machine learning and RPA all focused on eliminating risk and error, increasing efficiency and re-deploying employees toward value-add activities. Banks have rechanneled investment to support these initiatives, with many with new “Transformation” departments popping up. Agile has quickly usurped the traditional waterfall methodology to encourage faster business and technology changes. Automation has made a major breakthrough in credit decisioning across the lending landscape. Speech analytics is being used to tag complaints, identify compliance risk and monitor call quality. Organizations are increasingly using cloud-based technology, including for call recordings and cloud-based dialers. In fraud, machine learning and AI are becoming more prominent, particularly in authentication. And with fraudsters continuing to demonstrate more sophistication and flexibility to overcome authentication hurdles, you can expect more issuers to actively explore solutions like voice biometrics and device fingerprinting in 2020. In collections, alternate collections strategies are actively being expanded, with more than 60% of Roundtable members using one-way texting in pre-chargeoff collections. Debt collections is ripe for further disruption in the UK, with firms looking toward omnichannel engagement tools and testing completely switching off outbound dialing. In customer service, FIs have further nudged customers along the digital migration path, thanks to touch/face ID authentication for mobile logins. IVR systems are being enhanced to drive stronger containment rates, and AI is being explored for real-time call monitoring.

All this investment and change means job transformation is afoot across many functions in all markets – which Auriemma Group will recognize with a new sponsored award at the UK Cards & Payments Awards. The award, Excellence in Operational Innovation, will recognize the card issuer, brand, banking acquirer or payment company that has best demonstrated operational innovation resulting in a best-in class customer experience.

While I expect Auriemma’s two new presidents to push their respective companies well beyond the boundaries I achieved, I don’t expect any significant deviations in the types of business they pursue or the quality of services they provide. The same teams remain in place to deliver value to our clients.

What I do expect however, is that these gentlemen will want to write their own annual updates twelve months from now, thus ending my tenure at 30 years! So, I hope you enjoyed what is likely the last letter from me and look forward, as I do, to reading the words of Mark and Tom next December.

Meanwhile, I thank you again for your patronage and look forward to speaking with you soon.

Cheers!

Michael

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Auriemma 2018 Annual Letter: Payments and Lending Retrospective

January 7, 2019

As a kid, there were only three important events on my calendar each year. The last day of school, my birthday, and Christmas. Now, it seems there are three or more important events on my calendar every week! The staccato rhythm of the days, weeks, and months and the need to keep moving from event to event gives the impression that the pace of the treadmill has been turned up.

Given the rapid tempo of our lives, it becomes increasingly important to take a moment now and then to pause and reflect on some of the events and trends that took place over the last year and consider how they will influence the future. As many of you know, I’ve tried to do that by way of this annual letter, since 1992.

As our Firm has grown, our audience has become more diverse and it has gotten increasingly difficult to write a letter that captures everyone’s attention. While I suspect a few intrepid souls will bear with me for the next three thousand words, I suspect many others might choose to glance at the headlines and decide to read sections more selectively. For those who still can’t get enough, we’ve introduced hyperlinks throughout the letter to provide quick access to relevant examples of Auriemma research. Either way, I hope you enjoy this year’s annual recap.

Over the last several years, a big focus of our annual letter has been the challenging regulatory environment. For many of our clients, regulatory activities and compliance overshadowed almost everything else. It dampened innovation and, for many, the ability to grow or pursue new strategic paths. This year, that pressure seems to have been quelled a bit. That isn’t to say that there is less regulatory burden or pressure. We are told regularly by our clients that the bar is just as high as it’s been, despite the anticipated pullback given the new regime in DC and Brexit distractions in the UK. However, the pace of change has slowed. And that, in and of itself, feels like an improvement.

Lenders now understand the environment in which they are operating and how to navigate the complexities brought about by the heightened regulatory focus. So, for a change, we won’t be spending any more time on regulation in this letter. Instead, we’ll talk primarily about how lenders are preparing for the future, which seems to be the overwhelming focus for our clients.

According to key economic indicators, 2018 was terrific: strong GDP growth, record low unemployment, and confident consumers. On top of that, tax cuts bolstered corporate profits.

But despite all the good news, everyone keeps asking: “When is the next recession? And, how bad will it be?”  It’s no wonder everyone is worried: US consumer debt was slated to hit $4 trillion by year-end, according to CNBC. Because consumers have multiple financial obligations, the risk of contagion is also of concern. Auriemma’s consumer research finds that significant numbers of credit cardholders also have a mortgage, an auto loan, a student loan, and/or other personal loans. Will one of these products reach a tipping point that sets off the next credit cycle?

Certainly, it isn’t just the passage of time that concerns folks about the next inevitable downturn. Auriemma Roundtable data show that delinquencies for some products have been on the uptick. Early in 2018, for example, we reported that delinquencies for subprime auto loans reached recession-era levels, resulting in captive auto lenders pulling back on the subprime space. In card, absolute losses were anticipated to increase 30-40 basis points—although it’s important to remember that they remain near historic lows.

Despite a lack of consensus about when the cycle will turn, many agree that the next downturn won’t be as severe as 2008 – thanks, in part, to the lessons that organizations have learned, the vigilance executives are applying when developing strategies, and the protective measures being put into place, including higher levels of capital. Card issuers, for example, have developed early warning systems and increased scrutiny on underwriting, leading to lower approval rates and average credit lines. In short, there is a heightened sense of awareness today that didn’t exist a decade ago. However, there is also a high degree of sensitivity to any uptick in losses, with investors often reacting sharply to changes in loss performance.

It’s not just US lenders anticipating potentially rockier times ahead. In the UK, GDP growth has slowed, bankruptcies and insolvency figures have increased, and Brexit has perpetuated uncertainty. UK players are conducting stress tests and analyses to measure the impact of an economic downturn. The UK’s Financial Conduct Authority is focused on persistent debt, debuting a new set of rules meant to help cardholders who aren’t able to make headway on paying down their outstanding balances. In response, issuers are hiring and training agents to manage persistent debt-related calls, as well as crafting journey maps for affected customers.

While lenders are keeping a cautious eye on the economy and their delinquency and loss curves, they are also finding ways to bolster their profitability on the operational side of the house—an area where Auriemma Roundtables play a significant role.

After years of hiring armies of compliance and risk professionals, we’re seeing increased focus on the development of, and investment in, tools and technologies to work smarter, faster, and leaner.

It’s still early, but we are seeing more automation being deployed across many use cases. AI and robotics are being used to refine and automate processes in back office functions to improve efficiencies and workflows behind the scenes. AI is also being used to mitigate card fraud and to help increase the accuracy of real-time approvals and the reduction of false declines. Lenders are investing in predictive servicing within the IVR, which can better anticipate customer call reasons by identifying where they are within the customer journey. Chatbots are being deployed everywhere – some with intricate backstories and personalities.

Meanwhile, voice analytics will be leveraged to identify customer sentiment and tag complaints. Lenders are looking to automate everything from fraud holds to decisioning counteroffer tools. And, robotics will be tested for more and more complex tasks to improve on—and eventually remove—human intervention, including in underwriting and decisioning.

Lenders are still working hard to convert customers from analog to digital platforms and are making strong headway. However, I had to laugh during a recent conversation with a senior exec who recently took over his bank’s digital migration strategy. He said, “Until now, our strategy was to treat people badly in traditional channels and hope they’d migrate to digital.” I don’t think his bank is alone! Whatever the driving force, after years of prodding, customers are availing themselves of a plethora of digital and virtual tools. According to Auriemma Roundtables benchmark data, the percentage of cardholders enrolled in digital servicing is increasing, with a 24% growth rate over the last three years.  And in the UK, e-mail topped the list as cardholders’ preferred method of communication with their issuers, according to Auriemma’s UK Cardbeat study.

Our auto lending clients are increasing their efforts in this area as well. Currently, just 43% of auto loan borrowers are enrolled in e-statements and only half of auto lenders offer online chat, according to Auriemma Roundtable data. However, things will change: The current best practices include automatically enrolling new customers in e-statements, digitizing account opening agreements, and making some features, like travel notifications, available exclusively online. A handful of auto lenders are providing self-service functionality for extensions and deferrals as well.

Despite all of this, the old maxim rings true: “Be careful what you wish for.” Digital servicing was supposed to be the holy grail of cost reduction. But while enrollment has grown tremendously, overall call volume is flat. It turns out, digital customers are more aware customers – and they are calling with complex questions or disputes, not simple balance inquiries.

2018 saw new product launches and growth from FinTechs continue at a rapid pace. Yet, many executives I speak with wish they could get odds in Vegas on the number of FinTechs that won’t survive the next credit cycle because they’ll either lose access to funding or stumble due to a lack of expertise in credit risk. Certainly, that will be the fate for some. But, increasingly, the FinTechs we talk to are savvy and chock-full of resources with deep expertise and executional experience.

In 2018, you likely received a deluge of mailers advertising unsecured personal loans. That’s because the product is now the fastest-growing consumer lending product, with unsecured personal loan originations increasing 15% between Q3 2017 and Q3 2018, according to Experian. The product’s popularity has been linked to the erosion of HELOCs as post-recession consumers grow increasingly reluctant to use their home as collateral.

In a September Auriemma Research study, we found that nearly 9-in-10 consumers are satisfied with their personal loans, driven primarily by the speed of funding, clear terms and conditions, easy application process, and lack of unexpected fees… all of which further elevate the product in the mind of the consumer relative to HELOCs.

Experian also reports that FinTechs are responsible for roughly one-third of total unsecured personal loans, while plenty of large and mid-sized banks have also joined the fray. Incumbency is a strength traditional banks can play to their advantage. When we asked consumers their reasons for choosing a lender, 19% said an existing relationship was a top driver. While that may sound low, it topped a list of 22 reasons about which we asked.

In 2019, FinTechs will have some strategic choices to make. With the OCC announcing it would accept applications for a new Special Purpose National Bank (SPNB) charter, FinTechs will have to decide if they will leverage the charter and become more traditionally regulated entities, comply with the various requirements of multiple states, or operate with the popular partnership model. Each strategy, of course, has significant consequences for their future viability, the pros and cons of which we’ve been spending a lot of time discussing recently.

In the UK, Open Banking regulation has cleared the way for third-party issuers, brands, and FinTechs to offer enhanced banking products to consumers. The potential use cases range from account aggregation to reward services, and major players in payments and retail are investing resources into developing services, including Amazon, John Lewis, HSBC, PayPal and Uber. As a result, we can expect a more level playing field for new entrants and greater competition that will extend beyond the UK, thanks to the PSD2 mandate that all EU payment account providers build APIs by July 2019.

Partnerships between incumbents and FinTechs will be crucial to success in the world of Open Banking. Any organization that opts not to partner could risk eventual disintermediation. These developments could have a major upside for co-brands to deliver innovative, money-saving rewards by using new spend data.

Regardless of whether you see FinTechs as competitors, disintermediators or potential partners to traditional institutions, your organization’s philosophy and ability to respond to a rapidly changing landscape will be critical.

In the co-brand arena, 2018 saw fewer splashy RFPs and renewals from large programs. But, in the US, several well-known brands have extended existing contracts (JCPenney, Lowe’s), changed partners (Walmart) or launched new programs or offerings (Ikea, Hyatt and American Airlines). In the UK, Virgin Atlantic Airways demonstrated that there is a strong future for co-brands, even in a post Interchange Fee Regulated environment, by launching a product with a market leading proposition.

Meanwhile, customer value propositions have continued to grow richer. This year, Hilton enhanced its sign-up bonuses for all its co-brands and Barclays announced it will refresh the value propositions for Frontier Airlines, Hawaiian Airlines, and Upromise cards. Starwood, Macy’s and LL Bean all have debuted new tiers and rewards. This heightened focus on rewards begs the question – at what point does the rewards war become too rich to sustain?

Given our comments earlier about a possible credit downturn, we believe co-brand issuers will likely hold fast or tighten existing credit criteria for co-brand programs. As a result, we expect an increased appetite for “second look” programs, which allow co-brand partners to approve more applicants, including underserved customers with lower credit scores or thin credit files. These programs are commonplace in certain types of private label programs – it will be interesting to see if they gain traction in more traditional co-brand programs.

Factors like richer rewards, credit concerns, and restrictive regulations add to the challenge of managing a successful co-brand program. At the same time, longer deal terms make “getting it right” even more important. As such, we are convinced you’ll see much more active management of relationships both by issuers and their partners. Both parties will be evaluating performance earlier and earlier in the deal cycle to ensure that the program is operating at its fullest potential. Everyone will be more conscious than ever about whether cardholders are attracted to the product and behaving in the way that was predicted. The Auriemma co-brand team is actively working with several clients to improve program performance and assist with ongoing management. This is a new area of focus for us, and one we think will become increasingly sought after by partners looking to maximize the success and longevity of their card programs.

Perhaps one of the most disappointing results of 2018 is that mobile payment usage in the US remained flat at 31% among eligible cardholders for the second consecutive year. Interestingly though, the number of mobile payment options has continued to expand, thanks to the continued launch of merchant wallets, bank wallets and other payment options. While two years ago, the dominant players were Apple Pay and Google Pay (formerly Android Pay), there are now a plethora of options, including Capital One Wallet, Kohls Wallet, ChasePay, Walmart Pay and others.

With all the new options, why is usage flat? According to Auriemma’s Mobile Pay Tracker, 55% of mobile pay users say there are too many payment options, and 53% say the options have become too complicated. Perhaps the industry is more enthusiastic about these products than are consumers.

So which wallets will be the eventual winners? Mobile pay users say they prefer open-loop wallets (55% compared to 23% who prefer closed-loop, and 22% who have no preference).

Another ingredient for success? Wallets that can be used for things other than payments – such as Apple Pay’s announcement that students can now use its wallet to carry digitized IDs that can open dorm rooms and function as library cards. Users are increasingly hungry to use wallets for non-payment purposes, with 40% of mobile payment users telling our Mobile Pay Tracker researchers they are interested in using mobile wallets for event tickets, membership cards, and boarding passes.

Meanwhile, Chase recently announced it would roll out contactless cards to its Visa and co-branded card portfolios by the first half of 2019. When combined with NYC’s debut of contactless MTA turnstiles, we are hopeful the US is on the cusp of widespread adoption, similar to what happened in the UK market when contactless debuted in 2007.

Although I admit that my experience using chip at the point of sale has improved dramatically from the initial roll out, I still find it to be a bit haphazard and less seamless than the old mag stripe used to be. And, I’m still stymied by trying to pay with my phone in the US. But after spending six weeks in the UK during 2018, I found the contactless card experience to be intuitive, easy and fast. As we look toward 2019 and beyond, what remains unknown is how quickly contactless will be embraced by consumers, and whether adoption will be stoked by merchant availability or organic cardholder enthusiasm.

As I wrap up this year’s letter, I wanted to share a few of the ways the Auriemma team is preparing for an exciting 2019.

In 2018, we partnered with noted behavioral economist Dan Ariely to develop a Behavioral Economics Initiative, which will produce exclusive, member-only research that can be applied to industry and commercial objectives, including product innovation and process design. This initiative will formally kick off in February.

This year, we will be developing new data initiatives in our Roundtable practice that will make it even easier for clients to leverage our benchmark studies to inform company strategy. These improvements will include new ways to auto-import data, resulting in an easier data submission process.  We’ll also be developing tools that offer more data visualization and are easier for executives to manipulate and interrogate.

As I noted in last year’s letter, our firm undertook a complete re-branding exercise in 2018. In the next few weeks, we will unveil an updated name and website. Our Roundtables practice now represents nearly 70% of our business. When combined with our M&A and research lines of business, traditional consulting comprises a smaller percentage of the work we perform for clients.

So, after 35 years, we are dropping the word “Consulting” from our moniker and will now be called Auriemma Group. In addition to an updated look and feel, our new website will make it easier to find and share the research and data we produce– such as the examples I have linked throughout this year’s letter.

Be on the lookout for an e-mailed announcement when our new site goes live.

In the meantime, I hope you had a happy and healthy holiday season and that 2018 treated you kindly. While none of us really know what 2019 holds in store, I’m confident that as an industry, we’ve put the right preparations and measures in place to safely navigate whatever comes to pass.

As always, if you have any questions or comments about our thoughts in this letter, or otherwise, please reach out. We’d love to hear from you!

Cheers!

Michael

 

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Auriemma’s 2017 Annual Letter

Dec. 1, 2017

Dear Friends,

If you invested in Bitcoin, Jamie Dimon thinks you must be “stupid” and Mark Cuban says you should be prepared to lose your money. Yet, the value of a Bitcoin is now fifteen times greater than it was at the start of the year. The stock market seemed over-heated at 18,000. Even more so at 20,000 and 22,000. Recently, it breached 24,000. So where should investors place their bets?

Retailers are struggling with brick and mortar. But when I took my daughter back-to-school shopping in September, I had to wait in line to get into the outlet mall’s parking lot. I then endured more lines for the dressing rooms and registers.

The US Congress seems ready to pass a tax bill which will help the rich. Or the middle class, depending on whom you ask. There are many other contradictions in politics (which I’ll choose to steer away from in this forum) regardless of whether, like most of our readers, you are in the US or the UK. Even in Zimbabwe… meet the new boss, same as the old boss (as The Who said in 1971).

What’s my point? Simply that the world is complex. It’s full of mixed messages, contradictions, and partisanship. Our own payments and lending industry is no different. This year’s letter looks at how that complexity has manifested itself for our clients over the course of 2017.

For example, US consumer confidence and stock markets are up, credit scores are at a record high, and unemployment is low. Yet, after a prolonged period of stability, US credit losses are on the rise. Of course, the UK market provides a stark contrast. Consumer confidence and the underlying economy are deteriorating, and wage growth is slow. While this escalates concerns about consumers’ ability to pay, the UK’s delinquency rates have been largely unaffected thus far, according to company reports and our proprietary benchmarking data.

So, why are US losses rising despite the positive market conditions? It’s easy to point to the recent uptick in new account growth and the subsequent (and expected) increase in early-stage delinquencies. Or, that non-prime borrowers have recently gained more access to credit. However, the current crop of newer vintages (accounts opened in 2014-2015) are performing worse than expected, according to many of our clients.

These losses don’t signal any existential threat to profitability for issuers in the near term, but our clients are taking the potential threat seriously. While none appear overly concerned about the credit outlook, most are diligently preparing for the possibility of continued deterioration.

The specter of rising losses is perhaps more ominous now that household debt has surpassed its pre-recession peak. For better or worse, the composition of that debt looks very different today than in 2008. Housing debt is down significantly, but auto debt is up dramatically, and student loans have tripled, leading to a raft of implications for the economic outlook.

In the auto lending arena, we are closely watching sub-prime lending. As dealers are pressured to sell more cars, in an era of ride sharing and a amidst a deluge of off-lease vehicles entering the marketplace, auto lenders are under similar pressure to approve more applicants. One result is longer loan terms, with some topping 96 months – a level that few believe is sustainable. The ability to balance sales goals and risk will be a major factor in separating the winners from the losers.Synthetic identity fraud (SIF) was another significant topic on our clients’ radar this year. While EMV has successfully slashed counterfeiting, fraud losses (driven by card-not-present fraud) are higher than ever. With the amount of personal data available on the dark web (particularly in the wake of high-profile breaches, such as Equifax), fraudsters can create synthetic identities by combining real consumer data (such as Social Security numbers) with manufactured data (such as phony birthdates and names). This wreaks havoc on lenders in both fraud control and credit loss management.

As part of a recent study, Auriemma determined that up to 5% of charged-off credit card accounts could be linked to SIF. With the average unpaid debt totaling more than $15,000 per account, that equates to $6 billion, or 20%, in credit losses industry-wide. Issuers are banding together and fighting back, however. This year, Auriemma held its second workshop devoted to the subject. Our newly established working group will coordinate industry efforts to define, measure, and counteract this insidious trend.

As bad as the problem is in the US, I was interested to learn on a recent tour of UK card issuers, that SIF isn’t making headlines in that market yet. While US issuers have been hamstrung by the inability to cross-check applications with Social Security numbers in a timely fashion, the UK has more effective screening processes at account acquisition. But we’ll be closely watching the still-unknown implications of PSD2, which could create an opening for enterprising fraudsters.

In both the US and UK, retail sales are soft, with thousands of store locations closing their doors. But private label and co-brand programs are thriving as the savviest retailers are using these products to drive loyalty. Although 2017 was expected to be a slow year for US co-brand and private label activity, we’ve seen a surge of de novo offerings from the likes of Porsche, IKEA, Uber, Jet.com, Verizon, and others. These new deals, combined with the largest pool of issuers competing for deals in recent memory, made the market frothy indeed.

Issuers, merchants, and networks all worried about the future of co-branding in the UK after interchange rates were slashed to 30 basis points. Certainly, some value props have since been watered down. But other programs became stronger than ever after partners reached new agreements that restructured economics and allowed for more creative and compelling rewards. Ironically, the threat to these programs has forced the survivors (read: winners) to focus on the fundamental reasons why co-branding makes sense in the first place.

During a recent assignment in Japan, we’ve also observed several interesting dichotomies throughout the APAC region. Japan is fascinatingly modern and technologically advanced, though mobile payments have not penetrated the geography. This is true despite their having spread like wildfire in China, thanks to major players like Alipay and WeChat Pay. The average Japanese consumer carries six cards in her wallet (including many co-brand cards), but virtually no consumers revolve, and cash is still widely used. The spend-centric Japanese market is poised for the right combination of players to tap into consumer needs.

Mobile payments continue to struggle in the US, too. Despite consumers being increasingly addicted to mobile devices, mobile payment adoption is declining from an already low base. Between Q2 and Q3 this year, mobile payment usage fell 5% among eligible consumers, according to our proprietary Mobile Pay Tracker research. Earlier, I mentioned mixed messages. Here’s another one: of those who use mobile payments, roughly one-third cite security as a main attraction. A near-equal proportion of non-users say their main barrier to trying mobile payments is – you guessed it – uncertainty around security.

Clearly, it’s imperative that wallet providers and card issuers beef up education and communication around the security of mobile payments. Consumers want assurance that they won’t be responsible for fraudulent transactions, and they want proof that mobile payments are secure.

The regulatory environment remains an uncertain landscape. In the US, look no further than the speculation about the CFPB future leadership and regulatory scope now that Director Cordray is out. Certainly, the interim director will have a very different mindset than his predecessor, likely leading to a new direction for the Bureau. If pressure from the CFPB does subside though, we have no doubt that many state regulators will pick up the slack.

As always, our focus is on advocating for common-sense approaches and drawing attention to unintended consequences arising from regulation. For example, earlier this year, we wrote a comment letter on the continued effects of the CARD Act. While the Act has improved transparency in pricing and marketing, the regulation has also restricted access to credit and eroded the customer experience.

Europe is also gearing up for major regulatory initiatives as GDPR and PSD2 are scheduled to take effect early next year. While both regulatory initiatives share a common theme – putting the customer in control of personal data – the timing and scope of those changes create wrinkles for implementation. For example, PSD2 focuses on making customer data available to third parties, while GDPR is focused on a customer’s rights to keep it private. Moreover, PSD2 is based on current data protection regulations which will be replaced with GDPR. Both regulations present major operational and IT infrastructure changes and will take up significant resources. It might all prove to be worthwhile, however, for innovative lenders that use these initiatives to improve customer value rather than focus exclusively on complying with regulations.

When so many indicators seem to contradict each other, we must prepare for the unexpected. Through our industry roundtables, consumer and market research, partnership support, and corporate finance strategies, the team at Auriemma is prepared to assist clients in achieving growth targets while fortifying defenses against wide ranging threats.

Meanwhile, Auriemma is undergoing its own transformation. You may have noticed that I referred to the company as Auriemma throughout this letter, as opposed to ACG, which was our preferred acronym for many years. This is step one in a complete re-branding exercise we’ve embarked upon to more accurately depict who we are as a firm today and moving forward. Look for a new website, logo, and more in 2018.

We hope you enjoyed our perspective on the mixed signals rampant in 2017. While this annual industry round-up is a long-standing tradition, we continuously issue press releases, research, and articles focused on the topics that matter most to the industry. To follow along, please join us on LinkedIn or Twitter. Or, do it the old-fashioned way – give us a call.

We’d be happy to schedule time with you and your team to explore any of these (or other) topics in greater depth. Contact us at feedback@acg.net to set up a meeting or provide your thoughts on this year’s letter.

Regards,

Michael Auriemma

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Auriemma 2016 Annual Letter

Dec. 1, 2016

Dear Friends,

This is our 25th annual letter to clients and as usual, there’s no shortage of hot topics to discuss. The major news items are easy to tick off: Brexit, Wells Fargo, the U.S. Presidential election, and now Yahoo, just to name a few. It was a banner year for bombshells, pessimists, and the doomsday crowd. So, it wouldn’t be hard to fill this letter with downbeat stories. But those stories have been covered ad nauseam in the press and around the water cooler. Instead, I’ve decided to take a step back and consider the other side of the coin… the upside… the positive stories that surrounded us every day but seemed to get lost in the news cycle. When I stepped back, I realized there was plenty of positive change, innovation, and growth about which to be optimistic.

The upbeat theme for this letter wasn’t reflexive, though. Rather, the inspiration came to me while in Rio for the Olympics with my children.

Each day, my kids and I were blown away by the pride and enthusiasm among the athletes, their coaches, and the fans. We saw ten events, and purposely avoided many of the more mainstream offerings. Instead, we witnessed indoor cycling, weightlifting, decathlon, Tae Kwon Do, and others. We found that media hype had no correlation to the enthusiasm of the participants or their cheering sections. In fact, it seemed that if you bought a ticket for Olympic wrestling (for example), there was a strong likelihood that you knew someone competing in the event. So, perhaps the cheers were even louder!

There were countless amazing moments – hearing the Japanese fans chanting for their female gold-medalist… watching the Brazilian grounds keeper wave his flag from the tractor between equestrian events… witnessing the martial artist from Ivory Coast fall to the mat in tears upon winning gold… hearing the loudest EVER rendition of a National Anthem when the Brazilian boxer won gold… stomping our feet and chanting along with the Kazakhstan team as their compatriot narrowly missed medaling in weightlifting. These and countless other moments brought goosebumps to even the most jaded spectator.

Being surrounded by such positive energy was contagious and uplifting. It made me wonder:  how do we infuse some of that amazing energy into our industry? The more I thought about it, the more I realized, we already have lots of very positive and exciting things to cheer for. Perhaps they just needed a light shone upon them more directly. So, below are some of the accomplishments that I think we should look back on with pride as we reflect on 2016.

Let’s start with a quick example. In the post-recession era, how many times have we heard that customers don’t want another credit card? Don’t tell that to JPMorgan Chase which successfully debuted the Chase Sapphire Reserve card with a whopping $450 annual fee. The card has been a resounding success, particularly among millennials – a demographic that countless news stories told us was particularly credit-averse and unlikely to be wooed by card providers.

Chase found a winning combination for a customer who is primarily motivated by rewards. This hunger for rewards, which has been covered often in ACG’s proprietary consumer research, has, in turn, meant that the co-brand industry is thriving and flourishing, with a wide range of large programs making strides of late.

Perhaps the most sought-after co-brand deal of the year was Cabela’s, one of the last major retail self-issuers, which resulted in a watershed $5 billion deal for Capital One. American Airlines was also in play this year due to its recent merger with US Airways. Just as in Rio, where only one Gold medal is awarded, conventional wisdom would have expected one of the two incumbent issuers to land the combined deal. Instead, the Airline wound up maintaining programs with both Citi and Barclays, leveraging each for its strongest acquisition channels. Time will tell if that was two Gold medals or a Gold and a Silver.

Although Costco chose its new partners in 2015, the deal rolled out to consumers early this year. After reports of some conversion headaches, the results have been extremely positive for Citibank, Visa, and the Retailer

In the U.K., where interchange has been cut to roughly 30 basis points, many experts worried about the future of co-branding. ACG has been hard at work helping both issuers and partners to determine a deal structure that could survive in the new environment. Perhaps the first manifestation can be seen in BNP Paribas’ Creation Financial Services’ recent deal with InterContinental Hotel Group. The partners have managed to create a successful program and even improve the customer value proposition by taking a fresh look at the business model. Not only was the card nominated as the Best Credit Card Product of the Year by The Card & Payments Awards, but it is proof that co-branding can still work in Europe. You simply need partners that are pragmatic and willing to work together to drive value for the consumer.

Co-brand competition will continue well into 2017. Hilton will perhaps be the first to watch as it determines which of its two current issuers will manage its program into the future. A couple of recent mergers will also likely cause a stir as Marriott/Starwood and Alaska Airlines/Virgin America come together and sort out their various card programs. On top of this, other marquee programs will be up for renewal and several very interesting names have signaled their desire for de novo programs.

We’ll also have to keep an eye on Washington as we try to read the tea leaves for 2017. Economists are fond of the Latin phrase “ceteris paribus” which roughly translates into “all other things being unchanged.” If you are a banker (or own bank stock) and apply that phrase, you are probably feeling pretty good since the U.S. Presidential election. Your stock is likely feeling the effect of the “Trump Bump,” and you may be anticipating a near-term environment of higher interest rates, lower tax rates, and less regulation.

While less regulation would be welcomed in certain quarters, it must be said that, even in the face of an increasingly stringent regulatory environment, our industry has found ways to innovate and excel. For example, regulations like the TCPA hindered the efforts of the Collections industry. The restrictions it set forth necessitated changes to the business model and in time the industry adapted. Enhancements in self-service, proactive client interactions, and “opt-in” mechanisms for communications, all led to a net positive for issuers and their customers.

The CFPB started supervising non-bank auto finance companies in 2015. Our clients quickly built capable Compliance teams and developed a rapport with the examiners. When you consider the speed at which these lenders expanded and invested in Compliance operations to handle large-scale audits with a brand-new regulator, the progress is impressive.

Mortgage lenders have also successfully navigated the ever-more-challenging scrutiny by regulators, often having State and Federal auditors onsite simultaneously. Meanwhile, they continued to emphasize staffing, processing, and technology improvements to keep customer experience paramount. Going forward, these lenders can look forward to HAMP coming to an end, property values gaining strength, reductions in modifications and short sales, and an uptick in originations.

Over the summer, the CFPB released an outline of proposals under consideration to overhaul the debt collection market. The agency limited the scope of its actions, saying it would address first-party creditors and third-party debt collectors in separate proceedings. This is exactly what ACG had recommended in comments to the CFPB when the rulemaking process began in 2013. The overhaul, which will include new requirements on debt substantiation, expanded disclosures, and limited “excessive” communications, represents the first major refresh for the industry since the Fair Debt Collection Practices Act was enacted in the 1970s. The CFPB’s willingness to listen to the industry and hone the application of its rules was widely appreciated. Perhaps it was even an example of how regulators and lenders can work together to meet their respective objectives.

Earlier this year, the FCA recognized the nuances of the card business as well. The U.K. agency released its Credit Card Market Study, and while many anticipated the report would be a wide-ranging critique of the industry, it instead focused on the needs of consumers with persistent debt. The FCA is currently conducting research on how to improve consumer repayment behavior, with everything from behavioral cues and statement language on the table. This is an opportunity for the U.K. credit card market to creatively serve the needs of these customers, as well as to proactively help improve consumers’ financial health.

The lessons learned from the Great Recession continue to inform industry decisions. All our lending clients have been watching closely for signs of pending trouble. Indeed, there are some signs of a potential cyclical downturn afoot. Delinquencies and credit declines are both on the uptick, for example. However, the fact that we are so keenly watching the landscape is a major improvement from previous cycles. It wasn’t long ago that in the wake of a credit crisis, a large number of bankers admitted to American Banker that their credit models had failed to accurately predict losses. Our current vigilance suggests an industry that is better prepared than ever.

After years of hesitancy and skepticism, EMV is finally coming of age in the U.S. By now, over 85% of our clients’ portfolios have been converted. In 2017, nearly all issuers will have migrated, dealing a blow to counterfeit fraud. Some clients have even reported that they’ve already recouped the expenditure of reissuing their chip cards.

Meanwhile, the continued increase of chip-on-chip transactions should help reduce the customer experience challenges still evident at POS, where customers often must quiz store employees if they should be swiping or using the chip. The uneven acceptance strategies across some of the nation’s biggest retailers have left customers cold – and tweeting thousands of jokes at the payment industry’s expense.

Retailers who were not EMV-compliant saw an uptick in card-present chargebacks due to the liability shift. But as more retailers expand their EMV acceptance, that chargeback category will decline. We anticipate rates should begin to normalize and then improve over pre-EMV rates, which is good news across the board.

While EMV migration has blunted fraud in face-to-face transactions, the fraud has shifted elsewhere. Card-not-present and old fraudster favorites like check, wire, and ACH fraud are on the rise. It may be hard to see the good news here – unless you’re a criminal. However, the industry is working together in unprecedented ways to curtail some of the newer strands of fraud that are emerging. For example, ACG just launched a roundtable for retailers to address the challenges of payments fraud in a post-EMV world.

Fraudsters are also increasingly deploying synthetic fraud, an esoteric fraud type that uses stolen data (often from children and the elderly) to open new accounts. This fraud is nearly impossible to proactively identify, since current consumer privacy concerns hamper efforts by credit bureaus to validate social security numbers. The key to defusing this fast-growing fraud is industry cooperation. Earlier this year, ACG gathered more than 30 representatives from issuers, industry associations and networks, and credit bureaus to discuss how to tackle the problem. The path forward will require navigating a legislative thicket, but at least the conversation is underway.

Mobile payments have also gained ground this year. When Apple Pay hit the market two years ago, the headlines decried the imminent death of credit cards. Two years later, the headlines have reversed, calling mobile a major flop. Both sides of the spectrum are wildly exaggerated. While 2016 certainly wasn’t the “Year of Mobile Payments,” we never really expected it to be. Nor do we expect that 2017 or even 2018 will earn that title. Instead, consumer adoption will be gradual as consumer preference evolves and technology matures.

Issuers lament the lack of enough mobile volume to impact their overall results. But, according to ACG’s Cardbeat® research, just over half of cardholders have the option of using Apple, Android or Samsung mobile payments, due to their phone’s capabilities. Of those, 31% are doing so at least some of the time. That’s a pretty good take rate for a brand-new product. Additionally, there’s a small universe of mobile payments invisibly thriving via apps such as Uber, Starbucks, and Venmo.

Players like PayPal have also continued to make major strides in the digital and P2P spaces. In our most recent Cardbeat research, PayPal beat out the major banks to be the favorite P2P service for consumers. While consumers claim to trust their banks more implicitly with their financial information, 69% say PayPal’s technology is superior to the banks’ ability to protect their information. Banks are coming to grips with this in a variety of ways. Citi recently hired over 40 employees from start-ups and tech companies to start its own FinTech division. Others, like BBVA and USAA, are forging partnerships with FinTech companies to develop new solutions and stay nimble. Even auto lenders are contemplating FinTech acquisitions to bolster their capabilities in credit verification and decisioning.

The global political landscape of 2016 can be characterized by shock and upheaval. Voters from the U.S. to the U.K. to Italy to Colombia, have surprised the world with their decisions. The status quo has been upended, and what this means for our industry and markets is still being decided.

ACG’s mission is to provide guidance for challenging decisions in challenging times. While we may not be able to change the behavior of regulators, consumers, or fraudsters, we can help clients to influence outcomes and deal with ramifications. We can help to decipher trends, prepare a good offense and/or a strong defense.

In 2017, you can expect ACG to unveil several initiatives in our ongoing effort to enhance our offerings. In addition to improving the analytical tools and customer experience in our proprietary VIZOR platform, we’ll be debuting a research portal for our Payments Insights data called CAMBER. Both of these platforms demonstrate our commitment to providing the rich data necessary to make meaningful decisions.

We’ll also be altering our physical and digital footprints. A new website with refreshed branding is in store for release later in the year. Our Twitter account will be more active. And, after years of managing our growth in creative ways within our current spaces in the Financial District of New York City and Farringdon in London, we’ll be making changes to both offices. Our London team will be relocating to new and upgraded offices, while our New York headquarters will be renovated to make room for a larger team. Both offices will see new and exciting designs meant to enhance our ability to work effectively. We look forward to hosting you at our new facilities before long.

As we wrap up 2016, it’s obvious that the world’s events can’t be boiled down into a letter any more than they can be squeezed into 140 characters on Twitter, a snapshot on Instagram, or a shaky video that disappears on Snapchat.  These are complex times, and I’ve fielded hundreds of phone calls and hosted scores of clients in our offices, all to dissect these topics. We are always happy to engage in discussions with you at any point, as well as to share the direction our data and intelligence say the winds are blowing.

Let’s kick-start 2017 by talking a little more about the sheer ingenuity, innovation, and optimism that permeates our industry. Let’s stomp our feet, wave our flags, and cheer on our competitors. Here’s to a productive, positive and, most importantly, happy and healthy year.

 

Best,

Michael

 

 

 

 

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Auriemma 2015 Annual Letter

Dec. 1, 2015

Dear friends,

I’ve had a lot of time to think lately.

Like, the other day, when my normally eight-hour flight home from London turned into a 12-hour trek. It was a miserable end to an otherwise productive business trip. First, the Uber driver dropped me off at the wrong terminal. Then, the British Airways gate was devoid of employees, even 30 minutes after our flight was scheduled to leave. An hour later, we were hustled onto the plane – only to languish on the runway for two more hours without explanation.

The flight couldn’t have been more of a contrast to my recent 900-mile motorcycle trip with friends through New England. The trip was pure pleasure – plenty of laughs, practical jokes, and good times. There were blue skies and changing leaves, the colors of which would take your breath away.

Combined, these trips gave me an opportunity to sit back and reflect on some of the events we’ve witnessed in our industry throughout 2015. But like many of those events, the beautiful foliage of New England left me wondering… should these harbingers of change be cherished? Or, were they just a reminder of colder and bleaker times ahead? Certainly, there are parallels to be seen everywhere in our industry these days – often, just as things start to look brighter, something crops up to dampen the mood.

To wit, the global economy continued to struggle this year, despite showing signs of improvement and feeling, to many, as if it was finally trying to resume robust growth. It seems as though we are in the midst of the world’s longest economic hangover! To be sure, there were many mixed messages. With countless unicorns roaming around (you do know what a unicorn is, right?), it is hard to suggest we aren’t in another tech bubble. The question is whether or not this one will burst, and if so, when? While some markets were doing well in their own right, they couldn’t help but be dragged down by those in dire straits… would Greece spiral to the point of being another “Lehman moment?” Would it tip other vulnerable economies in the EU and beyond into chaos? What about China’s currency devaluation, which sent markets tumbling?

I won’t opine about what happens next. Even an august group like the US Federal Reserve can’t make up its mind. Just as a strong jobs report seemed to signal that rates would finally increase, deterioration in the EU or China would delay it. And so it continues: Will they or won’t they? What effect will an increase have? What effect will it have if they don’t? Isn’t any decision better than no decision?

Regulatory intervention continues to be a topic that cannot be avoided. It permeates every conversation we have with clients. Just a few days ago, I spoke to a CMO who told me she spends 90% of her time on compliance issues. Clearly, the regulators are well-intentioned. And many of the ills they attempt to cure should indeed be remedied. But, not everything they do is helpful. For sure, they are driving up costs and driving down the industry’s appetite for much-needed innovation. And, their positive actions are often creating unintended side effects.

This was evident as the CARD Act neared its fifth anniversary. In ACG’s comment letter to the CFPB, we noted that the Act indeed secured victories for consumers, including reduced fees, fewer interest rate hikes, and card agreements that rely more on plain English and less on legalese. But the Act also unleashed consequences, including reduced access to credit, and fewer products available for under-served customers. Not only do these borrowers have fewer products to choose from, but all borrowers must help offset banks’ risk by paying higher prices.
We saw another example in July, when the FCC released clarifications of the Telephone Consumer Protection Act (TCPA). The FCC’s interpretation of the law effectively restricts cell phone contact for debt collection – a decision that affects the card, auto, and mortgage industries. As cell phones become the primary method of communication for consumers, these laws show how legislation sometimes fails to reflect modern behavior. And when contact rates decline, so do repayments – which translates to long-term financial distress for consumers. Not to mention that creditors are less able to rehabilitate distressed borrowers when they can’t even have a conversation.

Given the scope of our services, ACG enjoys a 360-degree view of the most contentious issues facing the financial services and payments landscape. In our roles as intermediaries and advocates, we often try to find common ground between the industry and its regulators. Through continuous and open dialogue, we’ve tried to bring to light the need for balance and a complete understanding of the implications of even the most well-intentioned actions.

Either despite or because of the economic and regulatory environment, competition among lenders is heating up. One area in which this can be seen clearly is the subprime credit card market. Nearly one-third of consumers have FICO scores under 650, but when regulators cracked down on issuers, many abandoned the subprime market. Now, with high demand and strong (though risky) profit potential, we’ve seen a wave of new entrants to the market. In addition to the recently launched Build card, we are aware of at least three other significant players preparing to compete for their slice of the market. Meanwhile, even big issuers have been tip-toeing back into the sub and near-prime markets.

We are also witnessing the rapid rise of marketplace lenders. In the case of marketplace lenders though, I wonder: Are they all aware of the risk management issues at hand? Surprisingly, the answer isn’t clear from some of the conversations we’ve had.

A particularly hot segment is auto lending which has become one of the fastest growing sectors of consumer finance. Auto loan volume is the highest it’s ever been, according to American Banker and as witnessed in our auto lending roundtables. Auto lending emerged from the recession faster than other areas, thanks to relatively healthy credit quality. In response to this growth however, there’s been a surge of new subprime lenders backed by private equity firms like Blackstone and Blue Mountain. It will be interesting to see what happens next, as some buyers keep their cars longer on average, while Millennials are showing a reduced interest in owning a car in the first place.

Another area in which competition has intensified is co-branding. A raft of new US market entrants has brought the competition for deals to levels not seen in quite some time. This has increased the price of deals, though so far, not to the unsustainable levels we’ve seen in the past. It is also creating a bit of an arms race as issuers strive to develop rich value propositions to attract attention in already crowded wallets.

After a pause, even the UK seems ready to carry on with co-branding. Who could have been blamed for doubting if that would happen, as interchange (I refuse to say “swipe fees”) is headed to 30 basis points? But, the industry has recognized the value of the product, and found a way to restructure partnership economics in hopes of keeping co-branding alive and relevant. After all, why wouldn’t they, when the alternative is 37-month introductory rates? All this has led 2015 to be our partnership team’s busiest in the history of our firm (and we’ve been doing this since 1984!).

This year, the long awaited US EMV migration finally happened… kinda, sorta. In the three months leading up to the October 1st “deadline”, all four of the cards in my wallet suddenly sprouted chips. We understand that 47% of consumers say at least one of their cards has been converted. But how often can those chips be used? Are retailers prepared? Do the cashiers at the point of sale even understand what is involved?
What affect will EMV ultimately have on fraud? As anticipated, there was an uptick in fraud prior to the liability shift, as fraudsters tried to cash in while they still could. In 2016, we’ll be closely monitoring two areas that have been pinpointed for potential vulnerabilities – card-not-present (CNP) and account takeover (ATO). We have already witnessed an uptick in the debit space, with CNP fraud growing 20% in Q2, according to our Debit Fraud Benchmark Study. ATO, a relatively smaller fraud category, jumped 280%!

Our Payments Insights group’s research has found that when consumers use chip cards, 48% say that the transaction requires noticeably more time than swiping a mag stripe. Combined with shopper insight studies that have linked longer queue times with lost sales, this is a metric to watch. What will happen over the coming holiday season? And, what impact could lower-than-anticipated sales have on the aforementioned shaky economy? We expect the learning curve to smooth out, once more retailers enable their EMV-ready terminals and cashiers know how to better educate consumers. But in anticipation of a busy holiday season, some retailers aren’t taking any chances – they’ve turned off their EMV capabilities to avoid long lines; others aren’t migrating their systems until January.

For now, the US consumer experience is wildly inconsistent and will remain so well into 2016. This is unlike the UK, where consumers and retailers all made the migration simultaneously. I look forward to the day that my New York experience rivals that of London, where I’ve successfully used a chip-and-PIN card for quite some time. Last week, I used both my UK chip-and-Pin card and my US chip-and-signature cards (let’s not even mention THAT debate!) seamlessly throughout London. How long will it be before the US catches up? Will it even happen before mobile wallets make the card itself obsolete?

Our friends at Apple, Android, and Samsung are certainly placing their bets on mobile technology. The same holds true for Chase and MCX. In my 2012 annual letter, I declared a bright future for MCX and the influence it might wield. But earlier this year, I began to admit defeat. It seemed the retail consortium was about to be laid to rest. Now, just days before this letter, comes their biggest announcement yet: Chase has joined ranks with merchants in the mobile wallet battle. Chase Pay promises to reduce costs for merchants by eliminating network fees and eschewing expensive NFC technology. Will it be enough to compete with tech giants like Apple, Android, and Samsung?

Apple burst onto the scene a little over a year ago with great fanfare. Much has been written about the product, including our own Apple Pay Tracker consumer research. Consumers certainly love it – conceptually, at least. Banks have embraced it (or at least supported it). As such, you have a product that could finally bring some traction and credibility to mobile payments. But retailers have been slow to get onboard for one reason or another. Despite the promise, to date, the numbers are still all but impossible to find in issuers’ portfolios and economics.
No sooner had Apple Pay launched, than Android Pay followed. Much the same story, but for different hardware. Then, just moments later, Samsung announced its entry to the market, albeit with a very interesting twist. Thanks to its LoopPay acquisition, some of Samsung’s Galaxy phones can communicate with mag stripe readers, making the payment method compatible with approximately 90% of US retail locations! It is early days, but I’ve had three conversations just this week with executives claiming that the numbers on Samsung Pay are “for real.” We intend to track Android, Samsung, and Apple in our modified Apple Pay Tracker (which will be re-christened Mobile Pay Tracker), starting early next year.

With so much change afoot… with so many external influences shaping what lenders can and cannot do… with each decision leading to potentially significant (positive or negative) results, today’s industry participants find themselves clamoring for more and more information and data. I am often reminded of the quote (by Christopher Cherniak): “A society where members could only seek first-hand knowledge, would be profoundly crippled.” This thirst for information has proved fortuitous for ACG, as our roundtables are the perfect prescription for clients’ need for insights. We now offer over 30 groups to executives in three countries, covering seven products and 20 functions (see the full list at acg.net).

In 2015, leaders recognize that what worked yesterday often doesn’t work today. And, what works today likely won’t work tomorrow. Our groups allow executives with common concerns to come together in a controlled environment to talk about the issues that challenge them the most. They are discussing millennials (in our Retirement Customer Service Roundtable), PSD2 (in our UK Card Fraud Operations Roundtable), Uber (in our Auto Originations Roundtable), QRPC (in our Mortgage Collections Roundtable) and hundreds of other topics that we debate and benchmark extensively. In each of these roundtable communities, executives are learning from past mistakes, finding new ways to stay ahead of fraudsters, and discovering innovative ways to improve efficiencies and lower costs.

So, is it time to sit back and enjoy the scenery as the changing autumn leaves put on a dazzling display? Hardly. Nor do we think it is time to hunker down for winter with a six-month supply of firewood and canned goods. The times they are a-changin’, for sure. And while confusing, and perhaps stressful, it can be quite exciting as well. It will take both self-awareness, as well as situational awareness, to navigate successfully going forward. We are thankful to everyone who asked ACG to stand by their side over the last year as they made challenging decisions. We look forward to doing so again in 2016, and beyond.

Thanks for listening and thank you for your confidence and support.

Michael Auriemma

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Auriemma 2014 Annual Letter

January 2015

Dear Friends,

I’d like to start our 2014 annual letter by saying Happy New Year!  For the second time in 23 years, our year-end recap is being delivered in January.  The reason behind this could actually be our first topic of the year.  That is, 2014 was a difficult year!  At ACG, we were fortunate to achieve the highest revenues in the firm’s history.  But it wasn’t easy by any stretch.  As I’ve heard from many of you… lenders, vendors, competitors… the environment proved difficult for operating effectively.  Virtually every activity required more approvals, more “process”, more “compliance”, and therefore more time.  Often, much more time.  For many of us, it felt like the incline on the treadmill got turned up… we worked harder to maintain the same pace.  Below, we’ll touch on some of the market factors that led to this effect.

Another thing that got more challenging in 2014 was writing a single, meaningful update to all of ACG’s clients and prospects.  Our mailing list for this annual letter now numbers over 6,000 people in over 20 countries.  I think the first year’s list included fewer than 100 recipients!  We have struggled increasingly over the years to draft a letter that was relevant to readers in a growing number of industries, functional roles, and geographies.  For the last few years, we found ourselves writing longer and longer updates in an attempt to be more inclusive.  But that invariably meant some of you had to slog through sections that were irrelevant to you.

This year, we decided to try a new approach.  You’ll notice we’ve been briefer in our recap of what we think are the “hot topics” facing the consumer payments and lending ecosystems.  Rather than opine on each, we’ve tried to simply plant some seeds for future discussion.  Each topic below could warrant a full letter or even a full day of discussion. So, we invite you to reach out to us to discuss the issues you find most compelling… or most confusing!  Without further ado, here is our list:

* * * * * * * * * * * * *

  • The pace of economic growth in the Western world diverged sharply, with increasingly gloomy prospects for continental Europe, while the UK seems to be on the path to recovery. In the US, the University of Michigan’s Consumer Sentiment index hit an 8-year high, on the heels of the Federal Reserve’s confirmation that household debt burdens have settled at their lowest level in more than a decade. Classic economic theory and past experience suggest that the stage is set for a rise in consumer spending and borrowing. However, widespread migration to debit card usage may indicate that the financial crisis left permanent scars, just as the Depression of the 1930s marked the attitudes of that generation.

 

  • All the industries we serve share a growing concern with customer service and workforce management. Contact centers are caught between a relentless focus on CSAT scores and pressure to reduce costs while observing strict regulatory guidelines. At the same time, the composition of the workforce is changing, increasingly staffed by Millennials who value work/life balance issues, such as schedule flexibility and workplace amenities, over job security. Their expectations for rapid career advancement are challenging management to devise job enrichment and horizontal career paths to retain skilled agents.
  • The burdens of compliance permeate all aspects of the payments, mortgage and auto finance industries. Executives complain of vague and contradictory guidance from multiple agencies, retroactive punishments for candor, and a chilling effect on product innovation.  Vendor management adds to the headaches as regulators extend their audits to the myriad of service suppliers whose activities are a potential liability to their clients.
  • Regulated industries (which now include prepaid cards and captive auto finance, both newly brought under CFPB oversight in the US) face another balancing act: actions previously viewed as exemplary customer service, such as offering deferred payment or waiving late charges, are now being examined for disparate impact. Companies find themselves having to defend the basic premise of segmenting customers by their value and differentiating service levels: will loyalty and reward programs face additional scrutiny?
  • Consumers’ privacy concerns, initially confined to fear of being victimized by cybercriminals, have been exacerbated by revelations of the massive scale of data-mining by both government entities and social media giants. Consumers’ willingness to barter personal information for convenience is beginning to come under question, with implications for marketing and customer service as companies try to walk a tightrope between helpfulness and intrusiveness.
  • Sony and Apple aren’t the only victims of hacking, of course. Payment card fraud has gone from being a persistent but manageable annoyance to being one of the most pressing concerns in the industry.  While previous conversations about fraud had mostly revolved around online security, waves of highly-publicized data breaches at brick-and-mortar merchants have finally created the tipping point for EMV adoption.
  • EMV conversion is finally underway, even though many issuers privately concede that the decision to convert is driven more by PR considerations than by belief in EMV’s efficacy. What’s more, we seem to have only gone part of the way down the road as most issuers have decided to support chip & signature vs. chip & PIN.  Credit cards going out well in advance of debit cards, owing to the latter’s long road to consensus on a standard compatible with Durbin requirements.  Debit cards are now on track for EMV conversion as well, but issuers are struggling with customer communications: does describing a new credit card as “safer” imply that the mag stripe debit card from the same bank is not secure?
  • In the UK, credit cards are facing sharply lower interchange rates, a difficult adjustment that debit cards in the US have already had to make. There seems little chance that a Republican-controlled Congress will legislate lower credit card interchange rates in the near future.  Alternate payment products may achieve the same end through market forces, however, either skimming basis points off the issuer’s share (Apple Pay) or seeking to bypass the network rails altogether (MCX’s CurrentC, real-time ACH authorization). Will issuers respond by transforming the card back to being a lending vehicle, with the creation of no grace period products?
  • Auto lenders are feeling the tailwinds of the highest level of US auto sales in nearly a decade. That increase in volume, however, could result in operational challenges for those that aren’t fully prepared.  Mortgage lenders, meanwhile, are also seeing an increase in volume.  Recent reports of artificially inflated appraisal values make one pause and consider the potential consequences of these actions.
  • Probably THE biggest story in the payments world in 2014, was the long-awaited introduction of Apple Pay. I don’t think we’ve had a single client conversation since September 9th that didn’t at least touch on this rollout, its likelihood of success, and the implications for merchants, issuers, processors, and every other player in the payments ecosystem. ACG has responded to the challenge with the launch of an ambitious and rigorous research program to track consumer adoption among iPhone 6 owners — and we’d love to tell you more about it.
  • Thirty years ago, our firm was founded predominantly to help forge co-brand alliances. Today, while lots of other lines of business have taken root and grown at ACG, serving the co-brand market continues to be a thriving practice for us.  This year the co-brand market continued to evolve.  Some issuers purposely contracted.  Others got into the business or increased their appetite for deals.  Yet others struggled to maintain their status quo.  Given ongoing pressure on interchange, entitled and empowered consumers, and stiff competition among banks, what does the short-term future hold for co-brand?

 

As I said earlier, this letter, by design, can only scratch the surface of industry shaping subjects.  Hopefully, you think we touched on the most relevant ones.  If not, please let us know what’s on your mind.  Either way, we’d really appreciate a more detailed discussion with you about any of these issues…

whether or not you think you need help solving or navigating them.

Before signing off, I’d like to say how touched I was in November and December by the number of people calling to ask where our 2014 letter was!  It is rewarding to know our tradition has become one that many of you have embraced as well.

Here’s to a healthy, happy, and prosperous 2015.

Michael Auriemma

 

 

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