With interest rates at their highest in over two decades and inflation impacting consumers significantly, major banks are preparing for increased risks associated with their lending processes.
In the second quarter, JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo all boosted their provisions for credit losses compared to the prior quarter. These provisions represent the funds set aside by financial institutions to cover potential losses from credit risks such as delinquency or non-performing loans, including those related to commercial real estate.
JPMorgan allocated $3.05 billion for credit losses in the second quarter, while Bank of America set aside $1.5 billion. Citigroup’s allowance for credit losses reached $21.8 billion by the quarter’s close, more than tripling its reserves from the previous quarter, and Wells Fargo earmarked $1.24 billion.
These increased provisions indicate that banks are bracing for a more challenging economic climate, where both secured and unsecured loans might result in significant losses. A recent analysis from the New York Federal Reserve highlighted that Americans owe a total of $17.7 trillion in consumer loans, student loans, and mortgages.
Credit card usage and delinquency rates are climbing as consumers dip into savings accumulated during the pandemic and increasingly turn to credit. According to TransUnion, credit card debt exceeded $1 trillion in the first quarter of this year for the second consecutive quarter. Commercial real estate also remains in a vulnerable state.
Brian Mulberry from Zacks Investment Management noted that the banking sector and consumer health are still recovering from the aftermath of COVID-19, particularly influenced by the stimulus measures provided to consumers.
Experts suggest that potential banking issues may arise in the future. Mark Narron, a senior director at Fitch Ratings, stated that current provisions do not necessarily reflect immediate credit quality but instead indicate banks’ expectations for the future.
Banks anticipate slowing economic growth, a rise in unemployment, and possible interest rate cuts later this year, factors that could lead to increased delinquencies and defaults as the year progresses.
Citi’s Chief Financial Officer Mark Mason emphasized that the warning signs are particularly evident among lower-income consumers, who have seen their savings diminish post-pandemic. He remarked on the divergence in financial behavior, noting that only the highest-income quartile has increased their savings since early 2019.
While the Federal Reserve maintains interest rates at a high level of 5.25-5.5%, it awaits inflation to stabilize around its 2% target before implementing any anticipated rate cuts.
Despite banks preparing for a rise in defaults later this year, Mulberry indicated that current default rates do not signal an impending consumer crisis. He highlighted the distinction between homeowners and renters during this period, noting that homeowners locked in favorable fixed rates, while renters have faced skyrocketing costs.
With rents climbing over 30% nationwide and grocery costs rising 25% since 2019, those renting without low-rate mortgage benefits are most vulnerable to financial strain.
Overall, the recent earnings report showed that there were no new issues regarding asset quality. Positive indicators such as strong revenues, profits, and net interest income suggest a robust banking sector for now. Mulberry remarked on the underlying strength of the financial system but acknowledged the potential stress from sustained high interest rates.