Delinquencies on home equity lines of credit rose to 3.52% in the first quarter from 3.03% in the fourth quarter according to a report issued this week by the American Bankers Association. Also, delinquent credit card accounts were 6.60% of overall card balances, up from 5.52% in the fourth quarter. Both measures are records.

Banks are responding by making fewer loans and issuing fewer credit cards. In the first four months of 2009, banks issued 9.8 million new cards, a drop of 38% from the year before. The key reason behind this is rising unemployment, which has gotten much worse in the second quarter than the first, so look for the numbers to continue to rise.

Home equity loans are particularly problematic since almost all those loans have mortgages associated with them that are senior to the home equity lines. This means that when they go bad, the bank tends to lose the entire amount of the loan.
 
As people lose their jobs, they have an immediate hit to their income, since unemployment benefits are only a fraction of what they were making. In the past they might have drawn down on their savings, but given the extremely low savings rates of recent years, most people have very little in the way of savings. To the extent they had their savings in the stock market, well they are down along with everyone else.

The other thing people used to be able to do was to draw on the equity in their houses, either in the form of taking out a home equity loan, or refinancing their current mortgage for more than the current outstanding balance. You really can’t do that, though, if you mortgage is now for more than your house is worth (see “Homeowners Owning Less Home” for a fuller discussion).

So what most people do is fall back on the plastic. But as the days on the unemployment line drag on and no new job comes up, the limit on the credit card starts to approach. The Great Recession has been particularly noteworthy in the very long duration of unemployment people are suffering (see “More Unemployment, Longer”). Well, when you are unemployed, underwater and maxed out, what happens? You start not paying your bills — not because you are a deadbeat, but simply because there is no way for you to pay.
 
The stimulus bill did extend unemployment benefits for most of the unemployed, but unless they are extended again, come September there will be a flood of people with no income coming in whatsoever. This will greatly exacerbate the situation, and is one of the key reasons I remain very cautious about banks like (but not limited to) Capital One (COF), Citibank (C), Bank of America (BAC) and Wells Fargo (WFC).

The American consumer is simply too far in debt and does not have the income available to service those debts. The result will be defaults and yet more losses from the banks. The situation will not get better until unemployment starts to fall, and I do not see that happening until the middle of next year, and then only gradually.
Read the full analyst report on “COF”
Read the full analyst report on “C”
Read the full analyst report on “BAC”
Read the full analyst report on “WFC”
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Last 5 posts by Dirk Van Dijk

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