Capital One 3Q16 Earnings Call Notes

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Capital One Financial (COF) Q3 2016 Results

Industry growth has picked up, especially in subprime

“It’s a striking thing. We’ve talked a lot about industry growth, and we talk often about industry growth has gone from very low single-digits or even occasionally negative a couple of years ago to 6% and that has our attention. But here’s another stat that’s an interesting one. If you look at the composition of the industry’s growth over the last 12 months, about – and I’m going to just exclude Capital One from the whole calculation because your question is an industry effect there, about 31% of the growth is in subprime. And so subprime growth has certainly picked up now, it’s growing faster than prime, and certainly that has our attention.”

Still below recession levels of subprime lending though

“Now I do want to say, on the other hand, it remains well below pre-recession levels in absolute terms because there was such an exodus from that part of the business over the years following the Great Recession.”

Everyone says they’re not doing subprime, but someone is doing it. We have to be vigilant

“So, at times I think you hear from some players, subprime we don’t do that. Well, all I’m saying is 31% of all the growth is subprime, and somebody is doing it. And so, yeah, that has our attention. And it’s part of – it’s one – it’s an important part of the overall – if you kind of look at the industry story and this, by the way, is the number one thing that we worry about, more so than like the next recession; obviously, we worry about things like that, too. But the industry growth being at 6% and the subprime component of that, and then also the, beyond card growth when you look at student lending, auto lending, installment lending, that’s been running for a while now at around 7%. So we’re pretty obsessive about these things. It causes us to believe, first of all, that we have a window, and it’s just another reason we’ve doubled down and gone really hard while we have this window. It means we have to be doubly and triply obsessive about looking for indicators of things that inevitably happen when supply goes up a lot, and those indicators can be broad-based impact on credit metrics, as well as, of course, just directly affecting response rates and things like that. ”

Auto performance has continued to be better than expected

“But let me also say, really, if you stack vintage after vintage year after year in auto, they have been, the last few years, going up year over year, but the overall thing that we’ve seen is we’ve been – surprised is probably an overstatement, but I think we have kind of predicted something, a more rapid normalization than we’ve actually seen. All of that said, I think the Auto business is still in a good place for us to generate profitable business. But it is mostly kind of normalized, and it has a number of things going on in the industry that cause us to be very vigilant, most importantly, kind of underwriting practices there. But I would say really over the last few years, the actual credit performance has been strikingly good and maybe even a little better than expected.”

There will be pressure over time for loss rates to go higher for the industry

“And so I’ve just been around long enough that I find myself the longer I do this, the more reluctant I am to declare what a normalized loss rate is. But I think there is a net pressure over time that will pull up losses for kind of existing books of all players including Capital One.”