CHICAGO–Most borrowers were able to absorb their increased monthly payment obligations after the Federal Reserve Board rate hike in December 2016, according to a just-released analysis from TransUnion.
TransUnion said its study identified 63 million consumers who carried debts for which the minimum monthly payment due was tied to the market interest rate, for whom a rise in rates from the December rate hike could cause an increase in payments required. TransUnion said it used its CreditVision aggregate excess payment (“AEP”) algorithm that incorporates monthly payments from mortgages, credit cards and other debt obligations, to identify 10.6 million of these consumers who were at elevated risk of not having the capacity to absorb a rate increase of 0.25%.
The study then tracked the performance of these consumers through the end of March 2017, to give the December rate increase enough time to affect payment obligations. The study found that, in fact, only one-million of these consumers were delinquent at the end of March. This was slightly lower than the study’s control group, who had no variable-rate products. This result implies that consumers with variable-rate credit were able to manage the rate increase as well as, or better than, consumers without variable-rate products, the company said.
“When we announced our ‘capacity to absorb a rate increase’ metric last May we said that it was a conservative measure of risk, in that it did not account for contributions to savings or investments that could be reallocated to cover debt service increases,” said Ezra Becker, senior vice president of research and consulting at TransUnion, in a statement. “We described our metric as an upper boundary on the number of consumers who would struggle with a rate increase. We’re pleased to see that only 10% of those consumers we had considered at elevated risk of payment shock from a rate increase exhibited delinquency over the study period. Most consumers appeared able to reallocate their available cash, or make small changes to their spending habits, to effectively absorb the December rate increase.”
TransUnion reported its study further found that of those one-million consumers with delinquency in March, 70% had higher balances at the end of the study than they did in November.
“Minimum payments are as much a function of balances as they are of rate,” continued Becker. “Increased balances can lead to liquidity constraints regardless of how rates move. Consumers should always be careful to manage their credit usage within the limits of their income.”
TransUnion said its control group of approximately 44 million consumers held no variable-rate credit products, and hence had no vulnerability to rate increases, over the same time period. Interestingly, 5.6 million consumers in the control group (13%) showed delinquency on at least one product by the end of March. In fact, the control group showed higher delinquency rates than the test group even when controlling for credit score.
For example, the company said, 443,000 of the 1.26 million subprime consumers identified as having elevated risk from a rate increase in the test group (35%) were delinquent in March. In contrast, 2.78 million of the 4.89 million subprime consumers in the control group (57%) were delinquent at the end of the first quarter.
“It was really surprising to us that the control group exhibited greater delinquency rates than those vulnerable to a rate increase in our study,” said Becker. “There are clearly some interesting dynamics at play here that we don’t yet fully understand, but this initial study does seem to indicate that the 0.25% interest rate increase in December did not drive any material delinquency in the immediate term for consumers.”
Even so, TransUnion said it is offering some words of caution for both consumers and lenders. The study only provides an analysis of immediate-term impacts from the rate increase, and does not explore how consumers might be impacted over a longer period. For example, consumers meeting their payment obligations in the months after a rate increase by dipping into savings might eventually exhaust that source of funds. As well, the study only evaluated a 0.25% rate increase—larger rate increases could have more material impacts on consumer credit performance.
“It is important for both lenders and consumers alike to be cognizant that a rising-rate environment presents a different dynamic than a steady-state or falling-rate environment. For lenders, a rising-rate environment does present the risk of default due to payment shock. For borrowers, there is now a need to recognize and plan for the fact that rising rates may cause their monthly payment obligations to increase. The key for both parties is awareness and planning.”
“Above all else, consumers should keep in mind the foundational principles of credit health, which are especially crucial when working to build credit,” said Heather Battison, vice president of consumer communications at TransUnion. “It’s imperative to make the minimum payment due, on time, on all of your bills.”