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Credit bureaus set up own competitor to FICO

Denver Business JournalOn the Money
From the  May 5, 2006 print edition

The three major credit bureaus — TransUnion, Equifax and Experian — are ganging up on Fair Isaac (FICO) in an attempt to break the latter’s monopoly on credit scores.

They have formed Vantage Score Solutions, LLC, which has announced a new credit scorecard called “VantageScore.” It purports to predict the creditworthiness of consumer borrowers.

The trio also hopes to generate more revenue for themselves by offering VantageScore and thus eliminating license fees paid to Fair Isaac.

Here’s a comparative look at the two offerings.

FICO and VantageScore use two different ranges. FICO scores range from 300 to 850. VantageScore starts at 501 and runs to 990. The three credit bureaus that created VantageScore claim its range is more “intuitive.” It looks a little like a school report card:

  • 901-990 equals A.
  • 801-900 equals B.
  • 701-800 equals C.
  • 601-700 equals D.
  • 501-600 equals F.

Intuitive or not, the values constructed during scorecard development are arbitrary and have no bearing on the quality of the results. Introducing a new scale probably will just add to the confusion regarding how lenders use scores.

Borrowers now may try to figure out why a number that would qualify them for the best rates under one system (say, a 780 FICO) gives them a “C” grade under another.

The worth of any analytical technique is dependent upon the validity of the data. Credit-bureau data can be very different for the same person. Accounts reported at one bureau may not appear at the other two. Or a successfully disputed error at two of the bureaus may remain on file at the third.

VantageScore also aims to create comparable scores from three dissimilar databases — those of the credit bureaus. It’s too early to say whether or not VantageScore is superior to FICO in this respect.

Both scoring systems rely on five classic types of data: payment history, outstanding balances, length of credit history, new credit and types of credit used.

Payment history affects about 35 percent of the total FICO score. Details regarding payments made on credit cards, retail charge cards, installment loans and mortgages are part of the calculation. Recent late payments will damage the score more than older delinquencies.

The amount owed to creditors accounts for about 30 percent of the score. Owing a lot on many accounts won’t necessarily hurt the score. It’s the percentage of available credit used that’s critical.

The length of the credit history determines about 15 percent of the score. This part of the formula has generated concern among lenders.

New credit acquired determines about 10 percent of the score, and another 10 percent turns on the types of credit in use — the mix of installment loans, mortgages, retail accounts, credit card and finance company accounts.

Other factors make up the remaining 35 percent.

Equifax, Experian and TransUnion are private companies that monitor consumers’ accounts, balances and payment habits. While each company has its own score, lenders prefer Fair Isaac’s FICO formula.

When a lender requests a credit score — usually the FICO score — from one of the credit bureaus, the data the bureau has collected is sent through the proprietary FICO model. The bureau pays Fair Isaac for using its formula.

This is a major source of revenue for Fair Isaac. Credit scoring fees are 20 percent of the company’s revenue — but 65 percent of its operating profit, according to Merrill Lynch analyst Edward Maguire.

The bureaus would prefer to eliminate the middleman. They’ve tried to break Fair Isaac’s stronghold before, without success. However, VantageScore may be a different story.

One of lenders’ complaints about the FICO model is that people whose credit histories are “thin” (they have few accounts) or “young” (their oldest account has been established for only a few months or years) still receive relatively high scores. The lenders feel that people should have a more robust credit history before they reach the top of the FICO range.

VantageScore claims it has a better way to grade people with limited credit histories. If the result is a more efficient intermediary banking system, so much the better.

On the other hand, “FICO scores are entrenched in the financial world; used by 80 percent of the 50 largest banks, 75 percent of mortgage origination decisions,” said Ron Totaro, Fair Isaac’s general manager for global scoring solutions. “We’re a force because we’ve been at this for 50 years.”

At the moment, consumers can’t buy their own VantageScores, but Experian promises to make them available to consumers in the next few weeks, and the other bureaus say they’ll do so by the end of the year.

© C. Stephen Guyer for American City Business Journals Inc. All rights reserved.