Discover reveals how households are handling inflation

Andrew Harrer/Bloomberg

UPDATE: This article includes comments from the bank's earnings call and analyst notes.

Discover Financial reports signs of weakness in consumer spending and credit, though the institution told analysts it is prepared to manage a softer market.

Thirty-plus-day credit card delinquencies for the third quarter ended September 30 came in at 3.84%, an increase of 43 basis points, or bps, from the same reporting period in 2023, according to the earnings supplement.

Net charge-offs, meanwhile, landed at 5.28%, an increase of 125 bps year over year. Total net charge-offs, including personal loans, were up 134 bps to 4.86%. Period-end credit card loans posted a modest 3% increase to an ending balance of $100.5 billion; total loans were up 4% to $127 billion. Credit card sales volume, however, was down 3% to $53.4 billion.

"Sales were impacted by cautious consumer behavior and credit tightening actions, which began in 2022." said John Greene, Discover's chief financial officer, during Thursday's earnings call. 

Still, provisions for credit losses decreased by $229 million to $1.5 billion. Greene told analysts credit is performing "in line with expectations with net charge-offs plateauing," but noted that "households are contending with inflation and the impact on everyday living expenses…slower, stable spending indicates that households have adjusted spending patterns to manage their budgets, which is beneficial from a credit standpoint," Greene said. 

The Riverwoods, Ill.-based credit card processing company beat analysts' expectations on revenue, net income and diluted earnings per share. Revenue tallied $4.5 billion, up 10% and ahead of analysts' estimates of $4.3 billion, according to S&P Capital IQ data. Net income hit $965 million, up 41% and above analysts' estimates of $869.1 million. Diluted EPS landed at $3.69 per share, above estimates of $3.61 per share. 

Net interest income increased 10% to $333 million "driven by higher average receivables and net interest margin expansion," according to the earnings supplement. 

Jefferies Analyst John Hecht said in a research note it was "hard to find anything to pick on," and pointed to a deceleration in net charge-offs when compared with Q2 as a win for the company. By comparison, credit card net charge-offs in Q2 2024 came in 187 bps higher than they were in Q2 2023.  

Discover amended its 2024 outlook, adjusting for a larger decline in loan growth to the "low to mid single digits," from "low single digits." Net interest margin expectations ticked up to 11.2% to 11.4%, up from 11.1% to 11.4%, and full-year average net charge-off expectations improved slightly to 4.9% to 5% from 4.9% to 5.2%. Capital management and operating expenses were unchanged. 

"The updated FY24 guide has some puts and take but [was] overall positive," Jefferies' Hecht said in a research note. 

Meanwhile, Discover completed the first of four sales of its student loan portfolio during the third quarter and completed the sale of the second tranche of that portfolio earlier in October, interim CEO Michael Shepherd said on the call. 

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Greene also said that it was working with the Securities and Exchange Commission over a hangup with accounting practices relating to its years-long card misclassification issue. 

"We are working diligently to resolve their comments, which largely focus on the allocation of previously incurred card misclassification charges between revenue and expense," Greene said. "We do not anticipate resolution of this matter to have an impact to cumulative historic earnings, capital or counterparty restitution plan liability." 

RBC Capital Markets Analyst Jon Arfstrom said in a research note that while the SEC disagreement "appears manageable, it bears monitoring." 

Executives made little mention of its looming merger with Capital One other than to say its merger application was under review by regulators and "integration planning activities are advancing as anticipated," according to the earnings presentation. 

Other lenders have also noted the impact of higher prices. Consumers last quarter have been squeezed by prolonged inflation and elevated interest rates. Credit card issuer Synchrony Financial in Q3 saw its 30-plus-day credit card delinquencies rise 38 bps year over year to 4.78%. JPMorgan Chase also forecasted more credit headwinds with a $1.7 billion loan-loss provision spurred by higher net charge-offs driven primarily by the bank's card services business.  

Consumer spending could also be pressured in the next six months, with 85% of consumers considering cutbacks primarily in nonessentials like dining out, clothing and luxury items, according to PwC's Holiday report 2024. Those cutbacks would likely come after the end of Q4, as holiday spending is projected to rise 7% year over year. 

Synchrony Financial in Q3 said purchase volumes fell 4% to $45 million, but noted that tightened underwriting guidelines contributed to the decline. 

The remaining credit card processing companies are set to report earnings before the month ends. American Express is set to release its quarterly earnings Friday, Oct. 18, with Visa and Mastercard reporting Oct. 29 and Oct. 31, respectively.