‘Phantom’ Buy Now, Pay Later Debt Isn’t a Threat

Editors’ Note: MarketMinder doesn’t make individual security recommendations. The below merely represent a broader theme we wish to highlight.

Some fears just won’t die, no matter how high the evidence against them stacks. One prominent example today? Allegedly tapped-out, overindebted consumers. The story goes something like this: Yes, the US economy avoided the widely projected recession, and yes, strong consumer spending had a lot to do with this. But, it is an unsustainable house of cards built on debt—shifting sand. And as mounting debt forces consumers to deleverage, it will collapse.

This scenario is hitting headlines anew in a different guise this week: concerns about “buy now, pay later” (BNPL) purchases adding up to an untraceable phantom debt torpedo set to sink spending. In our view, this isn’t remotely close to adding up to a major risk—rather, it is another brick in the bull market’s wall of worry.

For the unfamiliar, BNPL is a payment structure that most commonly involves splitting a one-time online (and more recently, in-store) purchase into four interest-free payments spread over a few months, with the providers’ revenues coming primarily from fees. To us, it makes most sense to think of this as 21^st century layaway, and we don’t recall that particular category causing recessions in the mid-to-late 20^th century. Issuers generally perform a light credit check, quickly issue the short-term loan and the borrower gets the product. The borrowings mostly aren’t reported to the credit bureaus, thus the lack of reporting. 

Those talking up BNPL as a hidden force just waiting to wallop consumer spending point to its opacity. Unlike credit card debt, which the New York Fed tracks via the credit bureaus and reports on in detail each quarter, BNPL has no official stats or tally. It is lightly regulated, and most of the companies pioneering it are private, giving them easier reporting obligations than banks and credit card providers face. So there is an aura of who knows how big this is already, never mind how much bigger it will become as more players enter the game. And entering they are, with several publicly traded firms trialing their own BNPL programs to get in on the fast-growing market.

Which brings us to how this practice is commonly portrayed lately. Instead of high-tech layaway, we get stories of people storing up trouble as they use BNPL not just for the occasional luxury purchase, but for basics like grocery deliveries. And we get numerous reminders that the initial credit checks are softer than for traditional consumer finance, giving the impression these providers are lending willy nilly to folks who can’t repay. Add in a few anecdotes of people who have amassed big, fee-heavy BNPL balances after missing payments, and it naturally gets very big problem status.

Whenever you see stuff like this, it is vital to find the relevant numbers, or at least the range of estimates, and scale them. There are a lot of BNPL numbers floating around right now, but most overstate the issue for a simple reason: They focus on total transaction volumes. This would be like measuring credit card debt in terms of total purchases made with that form of plastic each quarter. The problem? It folds in the masses who don’t carry a balance.

This is why you always see credit cards discussed in terms of total debt outstanding—this measure limits it only to people who don’t pay their bill in full this month and are therefore actually carrying debt. So while one outlet estimates total BNPL transaction volume will hit $334 billion this year, a figure one media outlet prominently touted in two articles this week, that is irrelevant.^[i] It doesn’t speak to how much debt will actually rack up and what the delinquency rate will be. Another outlet estimates the market size at a paltry $18.2 billion in 2023 but doesn’t define “market size,” at least not as far as we can find.^[ii]

To get to the bottom of this, we find it best to go straight to company filings. So we did, starting with one of the most famous, Swedish BNPL pioneer Klarna, which is privately held. According to its 2023 annual report, it held 86.1 billion Swedish kronor of customer loans on its balance sheet, or $7.9 billion.^[iii]

Next up is Afterpay, a BNPL service owned by publicly traded fintech firm Block. In its 2024 Annual Report, Block reported Afterpay carried $1.25 billion in customer receivables when it acquired the BNPL firm in 2022. At 2023’s end, Block’s total consumer receivables—across its entire portfolio of companies—were $2.4 billion.^[iv]

Rounding out the big players is privately held Affirm, which reported $5.4 billion in loans held for investment as of Q1 2024.^[v] Now, this is an incomplete tally of outstanding balances, as other firms are starting to dabble. But those efforts are fledgling, and most attention is on the big three. So their collective $14.6 billion strikes us as a fair figure to work with.

What does this tell us? Well, for one, it is peanuts relative to the estimated total transaction volumes we mentioned earlier, telling us the vast majority of users aren’t in trouble. It is also peanut crumbs compared to total outstanding credit card debt, which famously topped $1 trillion last year. ($1.23 trillion at yearend, to be precise.^[vi]) And total household debt, now at $17.5 trillion.^[vii] There is nowhere near enough outstanding debt in the BNPL space to move the needle.

Oh, and not all of the outstanding balances are troubled. Affirm reported 90-day delinquency rates at 0.6% as of Q1’s end.^[viii] Afterpay and Klarna’s distressed assets are similarly tiny. Now, this might seem shocking given all the handwringing about the supposedly scanty credit checks. Yet this isn’t as loosy-goosy as portrayed. Yes, the BNPL firms typically perform a softer check at the start. But when customers opt for monthly payment plans, they perform checks more in line with the traditional consumer credit space—they just aren’t “hard inquiries” that show on credit reports. Which we think is a logical expectation, considering they have all the same incentives banks do—meaning, they want to stay in business.

Now, there are lots of calls today to force these companies to report loans to the credit bureaus and shed light on the exact amounts outstanding. But the trouble here is this: Every purchase is treated as a loan, unlike a credit card. So frequent users with a 100% BNPL repayment rate would likely see their credit take a massive hit if it were reported in this fashion—which seems pretty unjustifiable. The bureaus would have to change something in how they handle these transactions to assure such outcomes don’t happen.

And there are lots of calls for regulation. But in our view, this looks very much like a solution seeking a problem today—and even well-intended regulation can give rise to unintended negative consequences. This, to us, is a bigger risk than BNPL poses itself, should it reach beyond BNPL to other types of credit.

Look, we are all for scouring the financial world’s nooks and crannies for potential risks hiding there. After all, it is the risks no one sees or thinks about that have the most potential negative surprise power.

But those risks have to be truly hidden—not widely discussed, as BNPL has been for a while. And they must be huge, capable of knocking a few trillion off GDP or financial markets. BNPL is nowhere near that. Hence, we think it is best to lump it in with other tiny and widely discussed supposed risks as a classic false fear. And for stocks, false fears are bullish.

Hat Tip: Fisher Investments Research Analysts Shayan Saeri and Kevin Johnson