Sub-Prime Lending is a
Rolling Stone...
by Graham Summers
August 2, 2006
You can’t always get what you want. But if you try sometimes, you just might find, you get higher credit payments!
~Mick Jagger, with help from CompuCredit
You can make a ton of money by giving your money away to people who will probably never be able to pay you back.
At least, that’s what CompuCredit (CCRT) has tried to do.
CompuCredit is a $1.7 billion firm that offers financial services and credit to the underserved or sub-prime consumer credit market. It also offers money to “unbanked” consumers, or individuals who do not have bank accounts.
And it’s making a ton of money… sort of.
In the last three years, CompuCredit’s interest revenues have grown from $3 million to $113 million. That’s pretty amazing, except for the fact that virtually all of this growth has come via $2.3 billion in acquisitions of credit card debt from other companies.
Investors and Wall Street alike awarded CompuCredit for this genius tactic by buying CCRT shares hand over fist: a trend that has pushed CCRT’s share price up over 200% in the last two years.
However, the credit card debt CompuCredit acquired to continue its growth is not exactly stable. No, CompuCredit is buying the credit card debt for consumers with rock bottom credit scores: individuals who probably won’t be able to pay them back.
The idea here is that it’s possible to make money by extending credit to individuals whose credit is already poor - if not awful - in exchange for higher interest rate payments. In other words, CompuCredit thinks it will make money by charging higher interest rates to people who have a history of failing to pay their credit card payments.
The idiocy of this business model is most evident in the discrepancy between CompuCredit’s interest revenues and its income from securitized earning assets, or money from assets that are backed in one way or another.
In the last three years, interest revenues are up 3,000%. Meanwhile, income from securitized earning assets has more than halved from $270 million in 2003 to $127 million in 2005. CompuCredit is literally banking on its riskiest assets for growth, while rapidly getting rid of any asset with a degree of safety or backing.
If someone approached you with a business plan to create a company that loaned money to people who already have a history of failing to pay their loans back, with the intention of charging these individuals higher interest rates in exchange for more credit, I hope you’d smack them in the face.
The market is finally starting to give CompuCredit a few backhand swings. CCRT shares have broken below their 50- and 200-day moving averages. The stock hit a new 52-week low yesterday.
The sub-prime lending market is hurting for both credit card debt and mortgages. Looks to me like the consumer spending spree of the last 15 years is finally coming back to haunt us…
Good trading,
Graham
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