With interest rates at their highest in over 20 years and ongoing inflation pressures, major banks are preparing for increased risks associated with their lending activities.
In the second quarter, JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo all increased their provisions for credit losses compared to the previous quarter. These provisions represent funds that banks set aside to mitigate potential losses from credit risks, including overdue debts and commercial real estate loans.
JPMorgan set aside $3.05 billion for credit losses in the second quarter, while Bank of America earmarked $1.5 billion. Citigroup’s allowance for credit losses reached $21.8 billion by the end of the quarter, significantly more than its credit reserve from the prior quarter, and Wells Fargo recorded provisions of $1.24 billion.
These increased reserves indicate that banks are bracing for a potentially riskier lending environment, where both secured and unsecured loans could lead to larger losses. A recent analysis by the New York Federal Reserve highlights that American households now carry a collective debt of $17.7 trillion across various loan types, including consumer and student loans, as well as mortgages.
Moreover, rising credit card issuance and delinquency rates point to deteriorating financial conditions as pandemic savings diminish. Credit card balances reached $1.02 trillion in the first quarter of this year, marking the second consecutive quarter where the total exceeded a trillion dollars, according to TransUnion. The commercial real estate sector also remains vulnerable.
Brian Mulberry, a portfolio manager at Zacks Investment Management, commented on the post-COVID financial landscape, emphasizing the role of consumer stimulus during the pandemic.
Banking challenges are expected in the coming months. Mark Narron, a senior director at Fitch Ratings, noted that current provisions reflect banks’ expectations of future credit quality rather than recent performance.
Banks foresee slower economic growth, rising unemployment, and potential interest rate cuts later this year, which could lead to more delinquencies and defaults as the year concludes.
Citigroup’s CFO, Mark Mason, observed that these warning signs tend to affect lower-income consumers who have depleted their savings since the pandemic began. He noted that only the highest-income households have seen an increase in savings since early 2019, while those with lower credit scores are experiencing a decline in payment rates amid rising debts and inflation pressures.
The Federal Reserve has maintained interest rates at a 23-year peak of 5.25-5.5%, awaiting signs of inflation stabilizing around the central bank’s 2% target before implementing anticipated rate cuts.
Despite the concerns of rising defaults, Mulberry noted that current trends do not indicate a looming consumer crisis. He pointed out a key distinction between homeowners who locked in low mortgage rates during the pandemic and those who were renting, who are now facing more financial pressure due to rising rents.
From 2019 to 2023, rents have surged over 30%, and grocery prices have risen by 25%, significantly affecting renters who did not benefit from low fixed housing costs.
In summary, the latest earnings reports indicate that asset quality has remained stable, with strong revenues and profits suggesting a resilient banking sector. Mulberry concluded that while the banking system remains robust at this time, the prolonged high-interest environment could increase stress in the future.