American Express: investors should not take fright at provisions

Are loan loss provisions an act of prudence or a red flag? It is a question that divides investors this earnings season.

US credit card giant American Express reported a sharp jump in revenue for the third quarter on Friday. Cardholders have continued to spend big despite concerns over soaring inflation and rising risks of a recession. Overall revenue net of interest expense was up 24 per cent to hit an all-time high of $13.5bn. Executives said they now expect full-year earnings per share to rise above the previous guidance.

Even so, shares in Amex fell 7 per cent, investors perhaps spooked by the company’s $778mn loan loss provision. The hit — which covers current and future loan losses — was above analyst expectations and weighed on profits. Net income rose only 3 per cent despite the big increase in revenue.

At 14 times forward earnings, Amex shares trade below the three year average. That seems harsh. Shares of JPMorgan, which reported a $1.5bn provision last week, have climbed 7 per cent since its earnings release.

Amex attributed the increase in its loan-loss reserves simply to prudent accounting as there were more consumers borrowing. If not needed, these credit reserves end up getting released, boosting profits.

Credit quality remains in good shape. Amex benefits from an affluent cardholder base. Borrowers at least a month behind in their card payments increased slightly to 0.9 per cent from 0.7 per cent a year ago. The net write-off rate rose to 1.1 per cent from 0.8 per cent a year ago. Yet both figures are lower than those reported by JPMorgan’s credit card business.

Amex has entered a sweet spot. It not only has signed up more users. Inflation means it rakes in more fees and revenues since it takes a cut of the purchase price every time a consumer pays with its cards. The problems come when even affluent households need credit cards to cover income shortfalls. So far that time has not arrived.