Back when the economy was in full swing, credit card issuers competed heavily for new customers, often taking on risk that in hindsight looked ridiculous.
Most card issuers offered no fee balance transfer credit cards with 0% APR and sky-high credit limits, allowing savvy consumers to put the money in high-yielding savings accounts, keep the return, and then pay off the debt with another balance transfer credit card.
Yes, back then savings accounts were high-yielding, between 4-5%, not the dismal 1% or less you see nowadays.
Juggling Credit Cards
- Arbitrage works by taking advantage of price differences in a given market
- In this case borrowing money for less than it earns in deposit accounts
- If you can get money at 0% APR from a credit card issuer and deposit it in a savings account that earns 4% APY
- You can make money for a short period of time before paying back the card issuer
The practice came to be known as “balance transfer arbitrage” or “balance transfer juggling” because cardholders took advantage of the gap between 0% APR on credit cards and the relatively high yields in savings accounts.
Ironically enough, customers were basically doing to banks what banks do to their customers.
Banks lend out money the same way, using cheap customer deposits to fund their higher interest loans.
This is partially why there are balance transfer fees tied to most every balance transfer offer nowadays.
Anyway, because the balance transfer offers back then were so lucrative, some bold consumers would open multiple credit cards at once to take advantage of all the balance transfer offers available, many of which allowed cardholders to use balance transfer checks for whatever they pleased.
So instead of specifying a balance they’d like paid off, they could cash a check up to their credit limit and dump it into a savings account for a year.
Assuming the offer was a 0% APR balance transfer with no associated fees, they’d be earning the full savings rate during that time.
Let’s look at an example of balance transfer arbitrage:
Credit card balance transfer amount: $10,000
Terms: 0% APR for 12 months
Balance transfer fee: $0
Savings rate: 5%
In the example above, a cardholder could take the entire $10,000 and invest it into a savings account yielding 5%.
Assuming they kept the $10,000 in the account for just under a year, they’d earn about $500 in interest.
Before the 0% APR period expired, they could withdraw the money and pay off the full credit card balance, avoiding any and all fees and penalties.
Or they could use another balance transfer to off the previous balance transfer! Rinse and repeat.
Consider the amount of money earned if a cardholder executed the same balance transfer arbitrage with 10 credit cards at once.
On top of this, some credit card issuers were offering $100 sign-up bonuses to consumers who opened new credit cards.
And banks were offering new account bonuses as well. Talk about a deal! It’s practically enough money to call it a second job.
Downsides of Balance Transfer Arbitrage
- The practice involves opening lots of new accounts
- Including credit cards, which can hurt your credit scores
- And bank accounts, which are time consuming to open, manage, and close
- One also has to consider any fees and be careful not to miss payments
Though balance transfer arbitrage seemed to be quite lucrative, it was riddled with pitfalls, including the negative impact to one’s credit score.
Yep, opening a bunch of new credit cards at once is bad news for your credit score, as is closing a bunch.
And for those planning any major financing, like a new auto loan or a mortgage, previous balance transfer arbitrage could put the deal in jeopardy.
[Does a balance transfer hurt your credit score?]
Additionally, minimum payments need to be made each month on the balance transfer amounts, then there are the tax implications and the legwork involved.
You have to factor in all the time (opportunity cost) to your rate of return. Nothing is truly free, and that goes for your time as well.
Managing a ton of bank accounts and credit cards is no easy feat. It can be done, but it’s not for the faint of heart. And mistakes can certainly be made along the way.
For many, it’s probably not worth it…and now it’s pretty much a thing of the past, thanks to balance transfer fees and terrible savings rates, often below 1%. So that’s that folks.
If savings rates increase in the future, this could be a viable strategy to boost your nest egg, but until then, it’s probably best to use balance transfers for their intended purpose, to pay off legitimate credit card debt.