The conventional wisdom in the consumer finance business is that mortgage-backed loans are safer than credit card loans: If the customer fails to pay, the lender has collateral, a house, it can repossess. But Capital One Financial has outperformed most major financial institutions during the current economic slowdown by marching to its own drummer.

Cap One understands credit card debt, and it prices its loans conservatively, writes Matthias Rieker for Dow Jones Newswires. Rieker quotes CFO Gary L. Perlin:

"Credit card lending is a higher-loss business than mortgages, but that does not make it a higher-risk business. Every credit card loan we make we expect will have to live through an immediate degradation of something like 40 percent" to withstand the rigorous loss assumptions of Capital One's underwriting model.

In the second quarter, Capital One's profit fell 39.6 percent from a year earlier, attributable mainly to a 77 percent spike in loan loss reserves to $1.5 billion (out of $151 billion in assets). Capital One always underwrites "assuming that we are entering a recession," Perlin said. "That's the kind of stress that we want our loans to be able to withstand."

The stock price, which rose as high as $90 in 2006, has been trading under $50 per share. But the company is confident enough of its prospects that it actually raised its dividend in January. 

By contrast, many lenders heavily committed to mortgages have been punished far worse. In the mortgage business, says Perlman, markets don’t properly price the risk of default, believing that rising home prices will protect the lender. "If you try to price for the risk in the middle of the good times, you won't be able to write any loans because the competition will take it away from you."

But the housing crunch has played havoc on home prices, destroying the key assumption of the mortgage-pricing strategy. Financial institutions have been writing off tens of billions of dollars in bad mortgages. Indeed, the sub-prime mortgage fiasco has threatened financial stability globally, claiming Freddie Mac and Fannie Mae, which have securitized trillions of dollars of mortgages for resale to capital markets, as the latest victims.