Mercator Blog

Are High-Fee/High-Reward Premium Travel Credit Cards a Sustainable Business Model?
Date: July 25, 2017
Brian Riley
Director, Credit Advisory Service
The impact of credit card rewards on card spending is evident in many consumer surveys in the United States. The consistent message, dating back to the original Citi and American Airlines credit card loyalty program in 1985: Consumers respond well to loyalty programs that reward card usage with point or cash value for consumptive and discretionary spending.

Mercator Advisory Group’s 2016 CustomerMonitor Survey Series (CMSS) Payments survey found that 52% of the U.S. adults surveyed would more likely increase credit card spend if given valuable reward programs. The increased spend value was nearly double that motivated by all other drivers, including lower fees, higher credit limits, greater income, and brand preference.

Consistent with Mercator Advisory Group’s annual survey findings on card payment features are results from an annual study on card preferences done by TSYS which found that more survey respondents (40%) preferred to use their credit cards than favored debit cards (35%) or cash payments (11%) for overall transaction usage. Debit had been the preferred card product, particularly for spending on consumables, but after the Wall Street Reform and Consumer Protection Act (Dodd-Frank) took effect in 2010, preference began to shift back to credit cards. With regulatory price controls in place for debit cards, issuers looked hard at the efficacy of their programs rewarding points per dollar spent because revenue margins could no longer support traditional loyalty programs as a debit card feature. With U.S. credit cards unaffected by the price controls, issuers continued their incentive programs and credit card transaction volumes grew beyond debit card transaction volumes. Today, premium travel reward credit cards grab media headlines with rich incentive programs, introductory bonuses, and special features, and they carry large annual fees. Programs do not consistently waive first-year fees, although cardholders typically may use their bonus as a cash refund to offset the year-one cost.

Card issuers regularly redesign credit card offers with rich reward programs to address the mass affluent market, which is often defined as households with income in excess of $100,000. The segment is attractive to credit card issuers because disposable income and spending are higher than that of the average U.S. household (median income $56,516). Issuers capturing the mass affluent segment have access to high-spending customers and an opportunity to extend the customer relationship to other product offerings such as demand deposit accounts (DDA), savings products, and the full range of mortgage, auto, and personal line lending accounts.

There is no industry standard definition for premium travel reward credit cards. Mercator Advisory Group uses this rule of thumb: The annual fee is $400 or more; there are significant sign-up incentives, typically but not always including large introductory rewards points. In markets with tiered interchange pricing, such as the United States, the card is subject to the higher interchange rates (as are Mastercard’s World and World Elite products or Visa’s Infinite or Signature), and is marketed by the issuer as a premium product.

This report
excludes superpremium products linked to private banking accounts such as the JP Morgan Reserve, the 27-gram engraved precious metal card that weighs more than five times the standard issue plastic payment card. That card plan targets high-net-worth private banking clients with investable assets greater than $250,000, carries a $595 annual fee, and offers concierge services. Also excluded is American Express Centurion (Black Card), the legendary high-net-worth card, which carries a $7,500 initiation fee and $2,500 annual fee.

The market for premium travel reward credit cards is the mass affluent, willing to pay high annual fees in return for rich features, reward point multipliers, and high credit limits. In many cases, when cardholders maximize their benefits, the high fees more than pay for themselves for the first year. Our sampling of credit lines for premium cards finds the low range of credit limits to be $8,000, with more common lines between $12,000 and $16,000. The market for these cards begins at the household income level of $100,000, which represents 20% of the 117 million family units in the United States.

Offers look very attractive now, but Mercator Advisory Group believes four factors will make the long-term business proposition for premium travel cards unsustainable over the next 24 months. Although there is certainly a place for reward-rich programs, the popularity of those that rely on large up-front bonuses, carry high annual fees, and provide average long-term benefits will likely wane or the programs will be discontinued unless cardholders receive well thought out incentives for year two and beyond.

  • Issuers have already scaled back their 100,000-point, headline-grabbing offers.

  • Although the first-year offers often offset high annual fees, second- and third-year terms are less attractive.

  • From a consumer’s perspective, these programs generate the most benefit when cardholders repay monthly rather than paying monthly interest on revolving transactions.

  • The reliance on interchange revenue is not a long-term proposition. Interchange in the U.S. is three or four times the cost in Australian, Canadian, and European markets. As the U.S. market saw with debit cards under Dodd-Frank, where debit cards underwent price controls, a regulatory shift on credit cards could require agile change by U.S. issuers who could no longer use interchange expectations to fund rewards.
This report defines the existing market, illustrates how the product differs in highly regulated markets such as Australia and the United Kingdom compared to the open U.S. market, and discusses risks associated with a regulatory change should an interchange cap in the United States be imposed as has happened in Canada and Europe and, as of July 2017, in Australia.