Fitch: Korean Credit Card ABS Likely Resilient to Interest Rate Rises
The ratio of Korean household debt to disposable income exceeded 160% at end-2013, and household debt has continued to rise faster than income. However, Korean credit card receivables backing Fitch-rated Korean ABS are fixed rate through the swaps. Thus, consumers' debt servicing burden will not be directly affected by a rise in variable interest rates.
Nonetheless, non-credit card consumer debt can have floating interest rates, and a scenario where a sharp rate rise increases Koreans' overall household debt burden and affects their payment capacity on credit cards remains a concern.
Fitch projects the short-term interest rate in Korea to fall to 1.9% in 2015 from 2.3% in 2014, and the unemployment rate to be stable at 3% in 2015. Hence, a combined event of a sharp interest rate rise and a weak labour market is not Fitch's base case. However, if interest rates were to rise sharply to above 10% (a level comparable with Korea's certificate of deposit (CD) rate of 12.7% in 4Q97), and unemployment rate increase to 7% (a level not seen since 1999), the performance of Korean credit card receivables might be affected.
Fitch believes a test of such Korean securitisation transactions would require a very stressful economic environment. The conditions observed during the 1997-98 Asian financial crisis provide good insight into how these transactions would fare in very severe rating stress. During the crisis, interest rates rose above 10%, the unemployment rate climbed to 7% and the sovereign's Foreign-Currency Issuer Default Rating was downgraded to 'B-' in December 1997 from 'AA-' in June 1996.
In such an environment, Fitch expects the borrowing costs for financing institutions, including credit card issuers, to rise significantly. These issuers might subsequently increase interest rates they charge consumers, which would put pressure on household finances (although fixed-rate loans would not be affected). Liquidity shortfalls among issuers would likely lead to a squeeze on some weaker borrowers through a cut in the credit limits or withdrawal of credit lines, such as revolving advances. Cardholders' overall debt may rise as a result of an increase in other debts that have floating rates. In such a scenario, it is our view that borrowers will ultimately choose to pay secured over unsecured debts such as credit cards, which could then ultimately affect Korean credit card ABS transactions.
Fitch believes Korean credit card ABS transactions have a high level of resilience. Our view is driven by the structural protections in place in the transactions, such as the receivables eligibility criteria and structure, which typically include early amortisation triggers; as well as the healthy underwriting practices of credit card issuers.
Korea has also made advances after having had a credit card crisis in the recent past. The crisis of 2003 forced improvements in underwriting and investors requested favourable provisions to ensure their investments were protected.
Current macroeconomic indicators are benign with the unemployment rate at 3% and interest rate at 2%. This, together with prudent underwriting practices by Korean credit card issuers, has largely upheld the stability of Korean credit card performance despite the worsening of the average debt servicing capability of consumers. Fitch expects the performance of Korean credit card ABS to be stable as long as the labour market is stable and interest rate rises are mild.
Korean credit card ABS transactions rated by Fitch have been on Stable Outlook since closing, reflecting stable performance. The average greater than 90 days delinquency of Fitch rated Korean credit card ABS was at around 0.2%, excess spread at 6%-7% and monthly payment rate at above 65% in the first nine months of 2014.