DFS Discover Financial Services

A new accounting rule is complicating the efforts of credit-card issuers to raise funds in the asset-backed market, threatening to undercut the nascent recovery in this corner of the debt world.

For these issuers, access to the asset-backed market, where card loans are packaged into bonds and sold to investors, is critical. It allows credit-card companies to raise money cheaply in order to continue lending to consumers.

Card issuers, shut out of this market during the credit freeze, have recently made inroads again with the help of government efforts to kick-start consumer lending. But credit-card deals plummeted in October, interrupting a comeback in still-fragile debt markets.

An inability to tap the asset-backed market would be a further setback to credit-card companies struggling with losses on souring card loans and sweeping legislation that will take a bite out of profits.

At the heart of the matter is a new accounting rule that requires credit-card companies to bring back on to their books card loans that are bundled into securities and sold to investors. This change is fueling uncertainty on the treatment by a bank regulator of these card loans once they return to the companies' balance sheet. The concern is that once these credit-card securities return to the books, they are a part of the assets that may be seized by the Federal Deposit Insurance Corp., in the event the regulator takes control of a card issuer's troubled banking unit. This added wrinkle has companies, credit-ratings firms and investors questioning the fate of these securities should such an event occur.

To try to clear up the matter, the FDIC has scheduled a board meeting for Thursday.

"The change in the accounting for securitizations has had the unintended consequence of limiting the ability to get the required ratings needed to support current and future issuance of credit card asset-backed securities," said Roger Hochschild, president and chief operating officer at Discover Financial Services (DFS). "My hope is that the FDIC will act quickly to solve this issue so that recent improvements in the asset-backed market can continue."

Under the old accounting standard, card issuers--such as Citigroup Inc. (C), Bank of America Corp. (BAC), American Express Co. (AXP), Capital One Financial Corp. (COF), JPMorgan Chase & Co. (JPM) and Discover--would package pools of credit-card loans and sell them to investors. Until now, these securities haven't had to be included on the banks' balance sheets, so they haven't been subject to the same accounting standards and disclosures required for on-balance-sheet items.

But critics argued that this rule allowed companies to hide risky assets in these off-balance-sheet items. The new rule will force card issuers to bring off-the-books credit-card loans onto their balance sheets and set aside additional reserves to account for potential losses in these securities.

But bringing these card loans back on to the companies' books also raises questions about how these assets will be treated if the FDIC seized the card issuer's troubled bank.

"It amplifies the linkage between ratings on asset-backed securities and the credit strength of the bank sponsor," said William Black, an analyst at Moody's Investors Service. "If left unresolved, it's introducing an incremental risk that could have a negative rating impact on asset-backed securities. Most affected will be lower-rated bank sponsors."

So-called lower-rated bank sponsors are the ones with ratings lower than Aa3--the fourth-highest credit ranking--as defined by Moody's. This includes the card-issuing entities of Citigroup, American Express, Discover and Capital One.

The FDIC could issue guidelines Thursday on the accounting-rule change, which will include the grandfathering of existing credit-card securities so as to minimize the disruption caused to the issuance of such deals. The FDIC declined to comment ahead of its decision.

"Until credit-card issuers, investors and rating agencies see revisions to the existing rule, they cannot issue new deals, which will leave less credit available for consumers," said Tom Deutsch, deputy executive director of the American Securitization Forum, a trade group.

No new credit-card-backed bonds have emerged in the market since Bank of America issued a $300 million deal on Oct. 2, according to the trade publication Asset-Backed Alert. No credit-card securities eligible for funding under the Federal Reserve's Term Asset-Backed Securities Loan Facility, or TALF, have surfaced since September.

Year-to-date issuance of securities made up of credit-card loans has fallen 41% to $32.3 billion from $55.2 billion a year ago, according to a Deutsche Bank note published on Nov. 5.

In the short run, there could be "some degree of paralysis until issuers, investors and rating agencies can be certain of the capital implications and insolvency treatments of a new securitization," said Katie Reeves, an analyst at Deutsche Bank, in the note.

-By Aparajita Saha-Bubna, Dow Jones Newswires; 617-654-6729; aparajita.saha-bubna@dowjones.com; and Anusha Shrivastava, Dow Jones Newswires; 212-416-2227; anusha.shrivastava@dowjones.com

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