As interest rates reach levels not seen in over two decades and inflation continues to affect consumers, major banks are bracing for increased risks tied to their lending practices.
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 cover potential losses stemming from credit risks, including bad debts and delinquent loans, particularly in commercial real estate.
JPMorgan allocated $3.05 billion for credit loss provisions in Q2, while Bank of America set aside $1.5 billion. Citigroup’s allowance for credit losses rose to $21.8 billion by the end of the quarter, more than tripling its reserves from the prior period, and Wells Fargo recorded provisions of $1.24 billion.
This buildup indicates that banks are preparing for a riskier lending environment, where both secured and unsecured loans could result in larger losses. A recent analysis by the New York Federal Reserve revealed that Americans collectively owe $17.7 trillion in consumer loans, student loans, and mortgages.
Additionally, the issuance of credit cards and the subsequent delinquency rates are increasing as people deplete their pandemic-era savings and rely more heavily on credit. According to TransUnion, credit card balances reached $1.02 trillion in the first quarter, marking the second consecutive quarter where these balances surpassed the trillion-dollar threshold. The state of commercial real estate remains uncertain as well.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, commented on the post-COVID banking landscape, emphasizing the impact of stimulus measures on consumer health.
Experts suggest that any difficulties for banks will manifest in the coming months. Mark Narron, a senior director at Fitch Ratings, noted that the provisions reported do not precisely reflect recent credit quality but instead anticipate future developments.
Banks are predicting a slowdown in economic growth, a rise in unemployment, and two possible interest rate cuts later this year, which could lead to increased delinquencies and defaults as the year comes to a close.
Citi’s chief financial officer Mark Mason highlighted concerns among lower-income consumers, who have experienced significant declines in savings since the pandemic. He pointed out that only the highest income group has maintained more savings compared to the start of 2019, with a focus on those with high credit scores driving spending and payment rates.
While the Federal Reserve has kept interest rates at a 23-year peak of 5.25-5.5%, it is awaiting stabilization in inflation towards its 2% target before considering cuts.
Despite preparations for a potential increase in defaults later this year, Mulberry noted that the current default rates do not indicate an imminent consumer crisis. He is particularly observing the differences between homeowners and renters from the pandemic era, noting that homeowners, having locked in low fixed rates, are less affected by current economic pressures compared to renters who are facing significant rent increases.
Presently, experts indicate that the latest earnings reports reveal no new concerns regarding asset quality. Strong revenue, profits, and resilient net interest income suggest that the banking sector remains in good health.
Mulberry expressed relief about the strength of the banking system while cautioning that prolonged high interest rates could introduce more stress.