Why more issuers see profit in secured credit cards

Ally Financial’s $2.65 billion bet on the subprime credit card business is drawing skepticism from Wall Street — Ally’s stock price plunged Wednesday by more than 11% — with investors raising concerns about the strategy and timing of the auto lender’s decision to embrace riskier unsecured consumer loans.

Detroit-based Ally announced an agreement Tuesday to acquire the parent company of Merrick Bank, which provides high-priced revolving credit to consumers who typically do not qualify for mainstream plastic.

It is a lucrative business. CardWorks, the Woodbury, N.Y.-based parent company, recorded $277 million in pretax income last year on assets of less than $5 billion. Merrick Bank’s return on assets in the first nine months of last year was more than four times higher than the average across the U.S. banking industry.

Ally executives said that the acquisition will enable the auto lender, which also offers deposit products through a digital bank, to provide an expanded product set to its existing customers. Over time, Ally will likely offer a credit card for consumers with higher credit scores than those who would typically apply for a card from Merrick Bank, they said.

Targeting consumers with poor or thin credit, Amazon launched its Credit Builder Card in June 2019, enabling those who put down a security deposit to shop online — while earning rewards on par with those offered to mainstream cardholders.

Amazon Prime members with the secured card earn 5% back on all Amazon purchases, the same reward provided by Amazon’s private-label credit card and by its open-loop card. Amazon Credit Builder is one of the industry’s first private-label secured cards, according to Synchrony, which issues the new card.

Amazon Credit Builder typically offers customers a credit limit of $500, and consumers who make several consecutive on-time payments may be upgraded within seven months to a regular Amazon store card.

Justin Zeidman, head of credit card products at Navy Federal Credit Union, said his company took a renewed interest in secured credit cards after seeing fintechs encroach on that market.

Navy Federal increased its marketing outreach to this audience, but didn't see any increase in secured card acquisition, Zeidman said at Arizent's Card Forum in 2019. Then it realized that its minimum deposit requirement of $500 was too high for those members.

"They didn't have a lot of deposits on the books with us," Zeidman said. "On average we saw $700 … you're asking them to shove over 75% of their savings, just so they can establish credit."

To make its card more appealing, Navy Federal lowered the secured credit line to a $200 deposit — and acquisitions nearly doubled.

Its next step was to look at graduation. Most of the secured cardholders, upon graduation, were applying for a different Navy Federal card. The credit union chose instead to upgrade those members to its standard cash-back card.

"I know it's no secret secured credit isn't the most profitable place to play, but when you think about the lifetime value of being the first issuer to lend to someone — and then the value of that loyalty over the course of years and years — for us it made a lot of sense," Zeidman said.