As interest rates reach their highest levels in over two decades and inflation continues to pressure consumers, major banks are preparing to navigate heightened risks associated with their lending activities.
In the second quarter, prominent banks such as JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo increased their provisions for credit losses compared to the previous quarter. These provisions are financial reserves set aside to address potential losses from bad debts and various lending practices, including commercial real estate (CRE) loans.
JPMorgan allocated $3.05 billion for credit loss provisions in the second quarter, while Bank of America set aside $1.5 billion. Citigroup’s allowance for credit losses rose to $21.8 billion by quarter’s end, representing a significant increase from its previous reserves. Wells Fargo recorded provisions of $1.24 billion.
These allocations indicate that banks are preparing for a more challenging financial landscape, where both secured and unsecured loans could lead to larger losses. An analysis by the New York Federal Reserve revealed that American consumers owe approximately $17.7 trillion in various forms of debt, including credit and student loans as well as mortgages.
Furthermore, credit card usage and delinquency rates are on the rise as individuals deplete their pandemic-era savings and increasingly rely on credit. Credit card balances reached $1.02 trillion in the first quarter of this year, marking the second consecutive quarter that totals exceeded the trillion-dollar mark, according to TransUnion. In addition, the commercial real estate sector remains vulnerable.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, noted that the financial environment is still recovering from the impacts of the COVID-19 pandemic, particularly regarding consumer health and banking, heavily influenced by government stimulus measures.
Experts caution that any potential difficulties for banks may emerge in the near future. Mark Narron, a senior director at Fitch Ratings, stated that the provisions set aside by banks reflect expectations about future credit quality rather than past performance.
Currently, banks anticipate slowing economic growth, increased unemployment rates, and potential interest rate cuts later this year. These factors could contribute to more delinquencies and defaults as the year concludes.
Citi CFO Mark Mason highlighted that indicators of financial stress are particularly evident among lower-income consumers, who have experienced significant declines in their savings since the pandemic began.
While the overall U.S. consumer remains resilient, there is noticeable variability across different income levels and credit scores. Mason pointed out that only the highest income quartile has maintained higher savings compared to early 2019. Meanwhile, consumers with lower FICO scores are experiencing drops in payment rates, exacerbated by high inflation and interest costs.
The Federal Reserve has kept interest rates at a range of 5.25% to 5.5%, the highest in 23 years, waiting for inflation to stabilize around the central bank’s target of 2% before considering rate reductions.
Despite banks bracing for an increase in defaults later this year, current default rates do not yet suggest an impending consumer crisis. Mulberry indicated that homeowners, who secured low fixed-rate mortgages, are generally not feeling financial strain compared to renters, who face rising costs without the benefit of fixed rates.
Rent prices have surged over 30% nationwide since 2019, and grocery costs have risen by 25%, placing significant financial pressure on renters who did not benefit from low-rate mortgages during the pandemic.
Overall, the recent earnings reports from banks suggest stability regarding asset quality, with many indicators pointing to a resilient banking sector. Mulberry expressed reassurance that the financial system remains robust, although persistent high interest rates continue to create stress.