Maximize Credit Card Points for Better Trips and Rewards

David Harrell is the editor of Morningstar’s DividendInvestor newsletter. He’s also a miles and points enthusiast. He shares what he’s learned from his credit card points journey, including that miles and points aren’t so-called free money.Credit Card Points

How Do Travel Credit Cards Work?

Why Did Credit Card Companies Start Offering Rewards?

Why Have Credit Card Programs Become a Part of Airlines' Business Models?

Could Credit Card Companies Pull Back on Rewards?

Surcharges with Credit Cards

What is the Cost of Points and Miles?

Should You Spend to Earn Rewards Without Paying Off Your Credit Card Bill Each Month?

Spending vs Splurging

What to Know Before Researching Credit Card Rewards

Recommendations to Maximize Credit Card Rewards

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Ivanna Hampton

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Ivanna Hampton: Welcome to Investing Insights. I’m your host, Ivanna Hampton. The summer travel season is taking off. Many people are cashing in points and miles to pay for their flights and hotel stays. Today, we’re taking a trip into the land of credit card reward programs. We’ll talk about how they work, why points are not so-called free money, and why airlines have made earning miles part of their business model. David Harrell is the editor of Morningstar’s DividendInvestor newsletter. He’s also a credit card points and miles enthusiast, who’s written about his own journey. Here’s our conversation.

Welcome back to the podcast, David.

David Harrell: Great to be here again.

Hampton: So, let's start with what drew you into the world of credit card rewards points?

Harrell: Sure. Well, it was probably about 12 years ago. And we were coming back from a family trip. We had driven to the East Coast, and we stopped at a Marriott Hotel, I believe it was in Maryland. And we were checking out the next morning and by the front desk was the brochure for the Marriott Hotel credit card. I've been vaguely aware that there were airline credit cards and such, but I hadn't paid much attention to this. I picked up the brochure and there was a signup bonus, I believe 75,000 hotel points if you met a certain amount of spending within a few months. And there was a fee for it, but the fee was waived for the first year. So, I'm reading this and I'm like, wow, this is this is great. And I think it was enough points that could be redeemed for five "three hotel nights." So, I signed up for that card and that sort of began the journey or descent into points and miles.

Hampton: So, let's get into the nuts and bolts. How do these programs typically work?

Harrell: Sure. The first card I mentioned was a hotel card. So, there was a signup bonus and then it earned points for that specific hotel. So, there's credit cards that are associated with airlines and hotels that earn within that system. So, you can earn points for a specific hotel or airline. There's also credit cards that offer or where you earn transferable points. And these instead of being tied to a specific hotel or airline are ones that you earn – Chase, for example, has Chase Ultimate Rewards points. American Express has Membership Rewards points and those you can accrue and then either use them to spend for travel or you can actually transfer those to their transfer partners, which can include airlines or hotels.

And then in terms of earning the points, really there's two ways. One is this signup bonus, and this can be the most lucrative one where you sign up for the card and then if you spend X dollars within a certain number of months, you receive a fairly large number of points. And then you also earn points for ongoing spending beyond that bonus period. For all spending you get by signup bonus, but then you would receive, one, two, three or four or more points per dollar spent. And that can vary for different spending categories. Some cards will offer 1% for most spend, but then for a specific category such as a grocery store or a gas station, you might earn a few more points per dollar spent.

Hampton: Now, once upon a time, people swiped their cards and got nothing back. Why did credit card companies start offering rewards?

Harrell: Well, I think it's just competition. I'm sure you've seen the "What's In Your Wallet?" TV commercials. There were a bunch of them during the recent NCAA tournament. It seems like every game had multiple ones. They're competing for customers. And this is a way to get customers to either sign up for their cards or stay loyal to a specific card issuer's card or set of cards.

Hampton: And why have these credit card programs become such a part of airlines' business models?

Harrell: Sure. I'll offer a caveat here and that I'm speaking as a points and miles enthusiast, not as an investment analyst that covers airlines, but it's a tough business. So, Warren Buffett, who is the CEO of Berkshire Hathaway, in the year 2020, Berkshire had owned, I think, all four of the major airline stocks in its investment portfolio, and then they sold them during that year. And there was a quote from Buffett from a few years earlier in one of his annual letters where he said sort of a farsighted capitalist had been at Kitty Hawk, North Carolina in 1903 when the Wright brothers first flew, they would have shot the plane down to save investors a lot of grief over the years because it's such a capital-intensive business. So, if you look at most airlines, the majority of their revenue is coming from transporting passengers and cargo, but that's very expensive. You look at the aircraft themselves, they have to purchase the fuel to fly those aircraft. And then of course, the workforce, the pilots, the flight attendants, the mechanics, everyone supporting that business.

So often, it's not a great business. But what we've seen in recent years is that these loyalty programs for the airlines, their frequent flyer programs have become an increasingly substantial part of their business model. And what happens is an airline, for example, they can essentially, I don't want to say print money, but they're able to create – they have their points and miles, and they sell those to a credit card issuer, X number of points, which then the credit card issuer uses as rewards, either sign up bonuses or for ongoing spending to its credit card company, credit card customers. So that's an inflow of cash that these airlines are receiving. Now, eventually they're going to have to pay the price in the sense that those miles might be used for free flight. But in the meantime, they've got, on this balance sheet, this other income coming in in the form of selling those points or miles to the credit card issuers.

Hampton: And customers are likely to come back since they have that card.

Harrell: Right.

Hampton: Now, there's a proposed settlement among Visa, Mastercard and US retailers that would lower and limit credit card swipe fees for several years. Why is there a legal fight and could credit card companies pull back on rewards?

Harrell: Well, I haven't paid a lot of attention to this, but I've certainly seen the headlines and I've read a few articles, and it really comes down to the idea of protecting consumers. These fees are paid by the merchants, the small businesses and large businesses that accept credit card payments. But the cost of that is generally then passed back on to customers. And there's kind of a question of fairness here in that if a business has to raise prices to accommodate these fees, those prices, which are higher are paid by all customers, including customers that might be paying by cash. And then in terms of credit card rewards, it's not equal in that there's a subset of credit card users that have signed up for these more lucrative cash back or point-earning cards that are receiving the benefit of it and then other consumers aren't. So, there's sort of a fairness issue there.

I'm not convinced that this is going to cause a huge change in what we've seen partially because the proposed settlement, which has not been enacted, the reduction is pretty small and it's for five years. And I don't want to sound cynical, but this whole infrastructure of credit cards and the rewards earned by them, they're such a big part of the business model. Some of the largest banks and then Mastercard and Visa and other financial institutions, all of which have a lot of lobbying power and so on. And again, I'm speaking as a points and miles enthusiast, not as an investment analyst here, but I would be somewhat surprised if we see a huge change in this space because of this disagreement or legislation.

Hampton: The change I have seen, signs near the register is saying that there's going to be a surcharge if you use a credit card.

Harrell: Yeah. And again, I don't know, it's sort of how you frame that. What's the language that you use? A couple of months ago, Wendy's, the fast-food chain, got into some hot water it seemed when they were talking about that they were going to institute surge pricing and people just had a fit about this. And I think – variable pricing where you would pay more for a sandwich at certain points during the day. And I think it was really just a language thing. They said, oh, we're going to use discounts during certain portions of the day. I don't think anyone would have had a problem with that. But when you get this idea that you're going to have to pay more, obviously people don't react well to that. And I know there's a restaurant down the street from us, which does the same thing. We will be adding a 3% surcharge to your bill if you use a credit card. And my thought has always been, well, you could just raise your prices by 3% and then say, we're offering a 3% cash discount, but they're not doing it that way.

Hampton: Not yet. So, you've written that cash in points and miles can feel like spending free money, but you say that's not the case. What's the cost?

Harrell: Well, it's – when I first started in this, it was like, oh, free money, a free night in a hotel. This is great. Why wouldn't you do that type of thing? And the one thing I should have mentioned earlier when we were talking about how it all works is that there are cards that earn transferable points or specific points for an airline or a hotel. There are also cards that simply offer you cash back on any of your spending. There are several cards, no annual fee cards that offer 2% cash back at all of your spending. And there's been some headlines lately that an issuer is going to offer – (Robinhood) who's going to offer a 3% cash back card, although that's not actually out yet.

So, if you think about it that way, if you're earning hotel points, say you have a credit card that earns 2 points per dollar spent, that's an option for you. You could also use a credit card that offers you 2% cash back for every dollar spent. So, if you realize you have these choices, you're essentially spending a penny for every hotel point or airline point you're accumulating depending on the earning rate for your spending. So, you start to think about it less in terms of it's "free." I like to think of it more as like what is my return or discount on my spending. And at the very least with a 2% cashback card, you're getting a 2% discount on anything you use you spend using a credit card. Whereas you can earn even more back with judicious use of these points and miles. And if you follow some of the points and miles blogs, people will brag about the redemption rates that I stayed in this $1,000 a night hotel and it only cost me X thousand points. And when you think about a redemption rate that maybe that they were getting the equivalent of $0.10 or $0.15 for every point they used. So, when you do the math going back to your original spending, that's a fairly large rebate or discount on that spending.

Hampton: Sounds like it. So, what about spending money to earn rewards but you're not paying off the bill every month. What are the pitfalls?

Harrell: Yeah, I mean, that's the hugest pitfall. Certainly, I was someone coming out of college was not in a good place financially and paying a fair amount of interest or late fees on credit cards. And the enthusiasts will refer to it as the game of points and miles is probably something that if you're not in a position where you have a regular income each month and you're able to pay off your credit card in full each month, it's probably not something to pursue because while there is this rebate on your spending of 2% or 3% or more, at the same time, if you end up paying late fees or interest, that's likely going to wipe out, more than wipe out the value of any points or miles or cash back you've accumulated. So that really is the cautionary tale here is to only do this if you have both the regular income flow and personality, just sort of the organizational that you boom, you've got these cards, but you are paying them off each month because otherwise the downside is greater than the upside.

Hampton: Now, what about the spend versus splurge debate? Some people believe it's better to use their rewards to save money while others prefer to upgrade their travel. What's your take?

Harrell: It's sort of a mix of both. And we were talking before we started taping about how I probably don't really know what the sort of financial impact has been of the points and miles. Certainly, you could – dollars are fungible, but in some ways it'd be nice to know exactly how you've benefited from doing this. And you could have, like, well, I didn't have to spend $100 in that hotel. So now I've got an extra $100 that I can put into an IRA or a 529 account, or doing this allows me to contribute a certain amount of dollars each year to my 401(k) account. So, there is a question there. And I would say that it's a mix. Some people are able to do things, maybe do travel or vacations that they otherwise might not have been able to do.

I think there's also something that – and people are very upfront about this, it's almost lifestyle inflation, like, well, I would never pay to fly first class out of pocket, but because it's "points," I will use those points to do that. So, I think it's a mix. I've spent a lot of time reading some of the various points and miles blogs. And I think people tend to probably inflate their lifestyle a little more than just purely saving dollars that they otherwise would have spent dollars on purchasing the ticket. If you're paying out of pocket, you might not be willing to do that. I know a few years ago, we were driving back from another trip to the East Coast, and I had a bunch of hotel points. So, like, you know what? We're going to get the kids their own hotel room next to ours. Had I been paying out of pocket, I probably wouldn't have done that. So, there was an opportunity cost there that it seemed free to me, but there's a hotel stay down the road where I was going to have to pay cash for because I'd use those points for that.

Hampton: I'm sure it was worth it.

Harrell: I think everyone slept better that night.

Hampton: What do you wish you knew before you started this hobby?

Harrell: Well, I guess, one thing is just how insanely complicated it can be, particularly if you have this mindset, if you're always trying to optimize your spending. So, I always want to get the best deal or the best cash back on every dollar that I spend. And so, there's a podcast I listened to several years ago. It's the Financial Journalist Felix Salmon. And he was interviewing somebody who was a points and miles enthusiast. And Salmon was sort of a skeptic in all of this. And the phrase he used was cognitive load in that, well, yes, you can save some money, or you can get some "free travel" out of all this, but there's a price to be paid. And that is the cognitive load of trying to keep track of all of this stuff, either in your head or via spreadsheets. And so, there is a cost to that.

So, you could sort of think of it two ways. One is you're always trying to maximize your return. The other is, is you just pick a 2% cash back card, let that cash accumulate, and then maybe use that cash for purchases or you could invest that cash. So, there's the sort of two paths there, and I've sort of leaned toward the constant optimization path. But the downside there is, you find yourself almost kicking yourself sometimes because you're not necessarily keeping track of what all the offers are on maybe some of the credit cards you own. So, you go to the grocery store and you're like, oh, I got X% cash back, but if I'd used this other card, I would have gotten 1% more back. So, there's a downside there. And I think it does come to this cognitive load idea that you're using some of your brain space to track all this.

But how about you? I know that you're a points and miles enthusiast as well. So, what have you been doing and what are, I guess, some of your favorite rewards or things you've done with points and miles?

Hampton: Well, I too experienced the cognitive overload because I will look at the card and think, which card are you that's going to give me the most for this purchase? And then sometimes I have to show myself some grace. I'm like, which is the card that offers the best flat reward? That's the one I'm going to pick. And I like cash back. Just give me the cash and I'll figure out what to do with it.

Harrell: Right. No, that's a great approach as well. And I do know that some enthusiasts will make up, either for themselves or their spouse, stickers for all their credit cards, so they open their wallet and like gas, groceries, restaurants to use these cards for there.

Hampton: I've seen pictures of that, like this is genius.

Harrell: Yeah. I haven't gone that far, but perhaps I should. Yeah, I guess I would say that some of my favorite uses have been – one is using airline points to book backup flights when I'm traveling somewhere, because particularly over the past few years, you get a lot of flights canceled and such. So, if I'm flying from one city to another on a trip or something like that, and I really have to be back for work or for something else, if I have the option, I will generally book a second flight on a different airline leaving from the same airport for a little bit later. So, if my original flight gets canceled, I can just go over and use the second flight. And because I'm doing this with airline points, if I can just cancel the flight – if I get on the original flight and they close the doors and we're on the runway, I'm logging on to my phone and canceling the flight on the other airline. And then for hotel stays, I have been – our daughter started college this year. So, we've been making some trips to visit her and it's at a city where hotels are very expensive. So being able to transfer points from one of the credit card transferable programs to Hyatt has worked very well for us in terms of keeping the cost down for that.

Hampton: Those are great tips. As we wrap up, if anyone is looking to up their credit card point game, what would you recommend to keep in mind?

Harrell: I would recommend, there are some great resources out there in terms of various points and miles blogs. I guess my caution would be that, keep in mind the business model of most of these websites is that they earn money when you click their referral link to sign up for a new credit card. So, while I think some of them are very ethical and such, at the same time, I think there's an editorial tendency to always maximize or paint the idea of, like, well, if you get this card during the first year, you're going to get X amount of reward in terms of cashback or the value of those points. And oftentimes that first year, it is very lucrative. Even a credit card where you're paying a high annual fee, which might sound insane that you could pay $695 for a credit card, but you would receive far more than that back in rewards. However, after that first year…

Hampton: Self-check.

Harrell: Yeah, and in some ways, it's almost analogous to investing. It's like – at least I find it's easier to buy something than – it's easier to make the buy decision than the sell decision. So, I think with some of these credit cards, people get enthusiastic about the rewards, particularly those sign-up bonuses, but if it's a credit card that charges a fee, you pay that and you get a great bonus the first year, but there's some inertia there in terms of actually going back and canceling that credit card the next year. So really to keep that in mind and to be extraordinarily organized in terms of payment dates. It really works best if you're able to set your credit cards on automatic payment and so on, if you're in a position to do so financially with regular income each month. And again, don't be seduced by the idea of "free stuff" if it's going to end up costing you more in interest payments or late fees than if you don't do those things.

Hampton: Thanks, David, for these great tips and for coming to the table.

Harrell: Thank you. It's been great talking to you again.

Hampton: That wraps up this week’s episode. Thanks for listening. If you enjoy hearing market trends and analyst insights on our podcast, feel free to leave a five-star review on Apple Podcasts. It will help others find us. Thanks to senior video producer, Jake VanKersen, and associate multimedia editor, Jessica Bebel. I’m Ivanna Hampton, a lead multimedia editor at Morningstar. Take care.