WHY SO MANY CREDIT CARDS? CAN YOU SPELL SE-CUR-I-TI-ZA-TION?

November 5, 2002

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Why do you receive so many credit card offers in the mail? They never seem to stop. They don’t stop, folks, even if you have debt troubles, have a repossession, foreclosure, file bankruptcy, or whatever. Why not?

It’s easy. Your “debt,” what you owe someone (some credit card bank or other legal entity) is an “asset” for them. They can sell your anticipated stream of payments to someone else. In fact, if they are clever, they can “wrap” their “credit card portfolio” into a bond, and sell their bonds to investors. This is a common practice, and is known as “securitization.”

For many Americans, securitization is a good thing. Not too many years ago, people had problems getting home loans. They qualified for the loan, but their local Savings and Loan or Bank, didn’t have any money available. To stimulate home ownership, the Federal Government chartered the Federal National Mortgage Association (Fannie Mae) and similar organizations, to provide a “secondary mortgage market” so that banks and savings and loans could package their loans, and sell them, making a profit, and at the same time generating more money to lend to new customers, repeating the cycle.

The reason to do this, to promote home ownership, was a laudable goal. But today, the same principles are being used to “securitize” credit card debt. Large portfolios of credit card debt are being “wrapped” into bonds and sold on the open market to investors that are led to believe that they are being sold legitimate securities. In some cases, it is only a “house of cards.”

As detailed in the Oct. 29, 2002 Wall Street Journal article, “As Firm Implodes, Lawyer’s Advice is Point of Contention,” a firm known as Commercial Financial Services, Inc. or CFS, bought and repackaged consumer debt and repackaged debt and sold it as bonds to the investing public. When much of the debt became uncollectible, the company filed for bankruptcy, defaulting on more than $1.6 Billion in bonds.

On a small scale, this is an example of what could happen to the consumer credit industry overall. It’s a house of cards. Your credit card debt is part of a pool of debt, that is basically a commodity, bought and sold among investors. If something should happen that, on a large scale, causes massive debt default, there could be serious consequences. Of course, the credit card banks have thought of that. It’s called hedging. I’ll save that for a future installment. Tom Black