Guest post written by Steve Sievert, Executive Vice President, PULSE Network. Steve brings the debit issuer study to life in this free webinar »
Discover Financial Services is the NAFCU Services Preferred Partner for PULSE Network Debit Card Programs and Debit Networks.
Credit unions are experiencing a “new normal” in the debit business, even though most are not bound by the interchange cap imposed by Regulation II. Despite some downward pressure on interchange rates and increased caution throughout the financial services industry, credit unions have competitive advantages when it comes to growing their debit card portfolios.
In the 2013 Debit Issuer Study commissioned by PULSE, we found that issuers continue to grow their debit volumes even in the face of significant regulatory changes. Fraud continues to be a challenge, but issuers are seeing success in mitigating fraudulent activities. And many are looking beyond classic demand deposit accounts with debit cards to other means of expanding their payments businesses.
Of course, just because a credit union does not have $10 billion in assets to classify it as a “regulated issuer” under the terms of Reg II does not mean that it isn’t impacted by the new regulatory era. The study found that “exempt issuers” saw competition among debit networks drive down their average interchange rates by $0.02 per PIN and signature transaction. The decrease has been far less extreme than expected just a couple years ago. Exempt issuers surveyed in the 2011 Debit Issuer Study (conducted prior to the implementation of Reg II) expected an average decline in interchange revenue of 73 percent. In reality, the decline has been less than five percent.
Despite regulatory and economic changes in the debit industry, one aspect of the market has remained constant: the number of debit transactions continues to grow, providing credit unions with opportunities to differentiate themselves and improve their portfolio economics.
Credit Union Opportunities
As I looked through the reams of data in the 2013 Debit Issuer Study, I saw three key takeaways for credit unions: continued growth of debit, a drop in net fraud, and a growing appetite for general purpose reloadable (GPR) cards.
1. Continued Growth of Debit. Even with the backdrop of regulation and competitive pressures, debit is growing. The study reveals that the number of debit transactions conducted by active cardholders increased to an average of 19.4 per month, the highest we’ve seen in the eight-year history of the study. In other words, consumers appear to be unaffected by the changes in regulation that are happening behind the scenes.
Penetration and active rates also made modest improvements over the 2012 study. The study also revealed growth in PIN usage, in part because many issuers are encouraging PIN over signature, due to lower processing and fraud costs for PIN transactions.
2. Drop in Net Fraud. The challenge of fraud comes up in virtually every conversation with issuers. This attention to fraud is paying off as fraud loss rates are declining. Issuers report that their net fraud losses fell 30 percent year over year for both PIN and signature debit in 2012.
PIN debit fraud losses declined from $0.004 per transaction in 2011 to $0.003 per transaction in 2012; during the same time signature fraud loss rates fell from approximately $0.031 per transaction to $0.02 per transaction.
One of the factors driving the emphasis on PIN debit is that it remains eight times more secure than signature debit.
3. Appetite for GPR Cards. The third key finding from the study is the reported interest in promoting GPR prepaid cards with the percentage of GPR issuers nearly doubling between 2011 and 2012. Thirty-six percent of respondents to the Debit Issuer Study reported that they issue GPR prepaid cards, up from 19 percent in 2011. Additionally, study participants project a 55 percent growth in GPR prepaid cards this year, more than twice the growth rate projected in last year’s study.
There are two main ways issuers are using GPR prepaid cards. Some see them as supplemental to the direct deposit accounts of their members and customers. Others are using them as stand-alone products, expanding their product base to reach new, underbanked consumers who traditionally may not have a history of demand deposit accounts.
GPR prepaid cards also may serve as defensive tools to give issuers options for current members or customers who might be inclined to close accounts and move to non-bank issued GPR prepaid cards.
Another area of focus for exempt issuers to consider for growing their debit portfolio is the support of rewards programs.
The percentage of regulated issuers with rewards programs has fallen to 24 percent in 2012 from 37 percent in 2011. In 2010, two out of three regulated issuers offered rewards programs. Meanwhile, the study found that the percentage of exempt issuers with debit rewards programs grew to 44 percent in 2012 from 27 percent in 2011. Rewards programs at exempt issuers are nearing the 46 percent level of 2010.
Investing in debit rewards programs is one way that credit unions can generate excitement among their members and further differentiate their offerings from large regulated financial institutions. Because credit unions are less impacted by drops in interchange rates, they are in a better position to invest back into their business to attract more members.
The study also shows an increased interest among issuers that do have debit rewards programs in using merchant offers. Merchant-funded programs, offered by 52 percent of issuers with a rewards program, versus 38 percent last year, are seeing increasing interest among both regulated and exempt issuers. In fact, merchant offers have become as popular for rewards as point-based programs have been in previous years.
In addition, 80 percent of issuers expressed interest in using mobile to offer merchant-funded rewards.
The study found that mobile payments are another area of growing interest among issuers. Significantly more exempt issuers view mobile as a key opportunity than do regulated issuers (who said they are more focused on going back to basics). While the number of financial institutions that say they are currently participating in mobile payments pilots is up nearly 50 percent from 2012, overall adoption remains relatively low, with just one out of eight debit issuers involved in such tests.
Despite the relatively slow move to mobile payments, it is clear that debit issuers believe the shift is inevitable. Ninety-three percent of issuers expect that more than five percent of debit transactions will migrate to mobile in the next five years.
The transition to EMV will be among the major administrative challenges facing financial institutions, including credit unions, within the next year.
To encourage issuers and merchants in the U.S. to migrate to EMV, the major payment networks have announced plans to shift the liability for disputed transactions to the party that is not EMV-enabled. There is no mandate or requirement for issuers or merchants to act. Almost all issuers, 95 percent, are aware of the networks’ announced liability shift and almost all are evaluating the best way to proceed.
Thirty-eight percent of financial institutions plan to issue chip-based debit cards in 2014 and another eight percent plan to make the transition in 2015.
But many institutions are uncertain and are in a wait-and-see mode. Among the issues financial institutions face are complications associated with compliance. Even if issuers wanted to move to EMV, they are unsure of how to do so while also adhering to their merchant routing choice obligations within Reg II.
Responses to Rate Drops
Interchange rates have fallen significantly for regulated issuers, much more than the average two cents per transaction that exempt users have reported. Issuers in both groups are responding to these rate drops in a number of ways, with the most common response being to cut costs, bringing them more in line with the new revenue proposition for debit.
Also frequently mentioned was changing the issuer’s product structure. Financial institutions are seeking to grow their share of wallet with a particular type of account holder, or to encourage those individuals toward accounts that generate more revenue or have lower service costs.
Forty percent of regulated issuers terminated or restructured their debit rewards programs in 2012. Other tactics included changing organization size and structure, adding or raising fees, and encouraging other payment products.
These finding may provide credit unions, which typically face less pressure on interchange rates, with opportunities to differentiate themselves with tactics such as robust rewards programs and other moves that focus on delivering superior member service.
This is the eighth installment in the annual Debit Issuer Study, which PULSE commissions and Oliver Wyman conducts. Sixty-four financial institutions participated in this year’s study including credit unions, large banks, and community banks. The sample is nationally representative, with debit issuers distributed by size, location, and debit network affiliation (not all participants are affiliated with PULSE) in order to gather the greatest insight into the challenges and opportunities facing debit issuers today and in the future.
I believe you will find the insights from this study valuable as your credit union navigates through this “new normal” in the debit business.
More educational resources and contact information are available at www.nafcu.org/discover.