As interest rates remain at their highest levels in over two decades and inflation continues to pressure consumers, major banks are preparing for increased risks associated with their lending practices.
In the second quarter of the year, JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo all increased their provisions for credit losses compared to the previous quarter. These provisions are funds set aside by financial institutions to cover potential losses from credit risks, including non-payment on loans and commercial real estate (CRE) loans.
JPMorgan set aside $3.05 billion for credit losses in the second quarter, while Bank of America allocated $1.5 billion. Citigroup’s allowance for credit losses rose significantly to $21.8 billion, more than tripling its reserves from the previous quarter. Wells Fargo reported provisions of $1.24 billion.
These increased reserves indicate that banks are anticipating a more challenging lending environment, where both secured and unsecured loans may lead to larger losses. An analysis by the New York Fed revealed that American households collectively owe $17.7 trillion across consumer loans, student loans, and mortgages.
The issuance of credit cards and corresponding delinquency rates are also climbing as consumers tap into dwindling pandemic-era savings. Credit card balances surpassed $1 trillion for the second consecutive quarter, according to TransUnion, highlighting growing reliance on credit. The CRE sector remains particularly vulnerable.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, noted that the effects of COVID-19, especially the government stimulus, are still influencing consumers and banking health.
Though banks are currently experiencing stability, potential issues may arise in the near future. Mark Narron, a senior director at Fitch Ratings, emphasized that provisions during any quarter reflect banks’ expectations for future credit quality rather than historical performance.
Banks are currently forecasting a slowdown in economic growth, an uptick in unemployment, and potential interest rate cuts later this year in September and December, which could lead to more delinquencies and defaults as the year progresses.
Citi’s CFO Mark Mason highlighted that warning signs are particularly focused on lower-income consumers, who have seen their savings decrease since the pandemic began. He stated that while overall consumer resilience remains, performance varies significantly based on income and credit scores. Consumers in the highest income brackets still possess more savings than they did in early 2019, while those in lower credit categories are facing challenges due to high inflation and increased borrowing needs.
The Federal Reserve has maintained interest rates between 5.25% and 5.5% for 23 years as it awaits stabilization in inflation toward its 2% target before considering significant cuts.
Despite banks gearing up for greater defaults in the latter part of the year, Mulberry suggests that the current rate of defaults does not yet indicate a full-blown consumer crisis. He points out the contrast between homeowners who locked in low fixed rates and renters who face escalating rental prices and living costs without such advantages.
Looking ahead, analysts note that while current earnings reports show no new concerns regarding asset quality, the banking sector remains robust. Mulberry concludes that the lasting high interest rates may lead to increasing stress, warranting close monitoring of market developments.