American Express Bear's Den
by Bill Barker ([email protected])

Let's start by examining the long-term worth of Amex's highest profile component: the American Express Card. The Card, while not accepted at as many locations as the standard no annual fee Visa or Mastercard, nevertheless charges a yearly minimum fee of $55. How does one explain that, and how long can it last?

Michael Lewis, author of Liar's Poker, wrote a brilliantly prescient skewering of The Card back in 1989, entitled, "Leave Home Without It: The Absurdity of the American Express Card." Lewis explained the reason for Amex's refusal to charge a fair rate (i.e., no annual fee) for its card: "Were American Express selling a normal good, the first thing it would do to meet the competition wold be to lower its fees. But the company maintains that it isn't selling a normal good. 'The card,' as the booklet says, 'is much more than a simple payments instrument...' Oh really? How so? '[I]t is based on a membership principle.' In other words, Amex is selling snob appeal, which has a logic all its own. And when you are selling snob appeal, trying to compete on price is not merely futile, it is self-defeating. An American Express card that cost no more than a Visa card would be worth even less."

So true. Amex has built is reputation on the illusion that its card is somehow worth more than it really is -- a hopelessly doomed strategy over the long term. It should come as no surprise at all that since Michael Lewis wrote his piece, The Card's market share has plummeted from 24.3% in 1989 to 15.8% in 1996. Consumers have sniffed out the empty promises behind the expensive marketing campaigns, and have left Amex in droves over the last decade. They will continue to do so, until The Card charges no annual fee and is equally as useful as a Visa or Mastercard in terms of how many merchants actually accept it. And when Amex ultimately does offer free "membership," the company will be taking a massive hit on its earnings as it loses all that annual membership gold. But until that point, The Card isn't going to be getting back to anywhere near 25% of the market.

The ability of consumers to sniff out the empty promises behind the expensive marketing campaign bodes ill for much of the rest of the financial services where Amex is currently turning a tidy, if not explosively growing profit. Take, for instance, the family of mutual funds offered by Amex -- the American Express IDS funds. Now, as any regular reader of Fooldom knows, no more than 20% of actively managed mutual funds outperform the S&P 500 over time. But over the last three years, American Express has managed the difficult trick of going 0 for 30 with its funds on matching the market.

In fact, Amex's funds are so bad they don't even come within shouting distance of the market. As I write this, whereas the Vanguard Index S&P 500 has turned out a 24.2% annual return over the last three years, no Amex fund even reaches a 20% average over the same period. On top of the extremely poor ongoing performance, Amex's "Class A" funds charge an unconscionable 5% load for this massive underperformance. Membership has its privileges? No, membership has its costs. Membership has its illusions. Isn't the current marketing campaign for The Card, "Do more"? I agree. Do more -- get an index fund. And ultimately, that's what Amex's customers are going to do.

The next ten years looks pretty bleak for this leg of Amex's profitability, as the same thing that happened to its credit card market share is bound to happen to its laughable collection of mutual funds. Droves of its participants are going to realize how obvious it is that American Express is either incapable or unwilling to offer real value to its "valued" mutual fund clients -- and they are going to be voting with their feet.

Looking at Amex's other services, one has to wonder what kind of future they have as well. Beyond its card, American Express is best known around the world for its traveler's checks. Do people still use those? I know that there was a time years ago when I used traveler's checks, but nowadays, with near universal acceptance of credit cards and the availability around the world of ATM machines, I can't imagine going through the hassle and expense of buying traveler's checks again. So I don't see that as a product that is going to do anything but shrink in revenue going forward.

With so much loss of market share and with the worthless product that Amex is trying to foist upon its customers, it isn't hard to see why revenue growth has slowed to about 5% annually over the last five years -- an absolutely exceptional five years for the American economy of course, during which time the total amount put on charge cards has basically doubled. It's a little hard to see how Amex is going to keep pace with its recent revenue growth past. If that's the case, then how do you justify a P/E of over 20 with revenue growth going forward in the very low single digits? If that high? Since Amex is sooner or later going to have to start competing on price in the realm of credit cards, mutual funds, and the other financial advice it dispenses, I don't see the margins exactly widening over the next five years either.

The American Express Company. Leave your portfolio without it.

Next: The Bull Responds