With interest rates at their highest in over two decades and inflation affecting consumers, major banks are getting ready to navigate increased risks due to 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 are funds set aside by banks to mitigate potential losses related to credit risks, which can include unpaid debts and problematic loans, particularly in commercial real estate.
JPMorgan allocated $3.05 billion towards credit losses, while Bank of America set aside $1.5 billion. Citigroup’s allowance totaled $21.8 billion, marking a threefold increase from the previous quarter, and Wells Fargo reported $1.24 billion in provisions.
These increases signal that banks are anticipating a riskier lending environment, where both secured and unsecured loans could lead to greater losses. According to a recent analysis by the New York Fed, American households owe a combined $17.7 trillion in various forms of consumer debt.
The issuance of credit cards and the associated delinquency rates are also climbing as consumers deplete their pandemic savings and increasingly rely on credit. Credit card debt amounted to $1.02 trillion in the first quarter of this year, which is the second consecutive quarter in which balances surpassed the trillion-dollar threshold. Furthermore, the commercial real estate sector remains vulnerable.
Brian Mulberry, a portfolio manager at Zacks Investment Management, commented on the ongoing challenges faced by consumers post-COVID and the influence of stimulus payments during that period.
However, challenges for banks may manifest in the upcoming months. Mark Narron from Fitch Ratings emphasized that the provisions reported in any quarter are not always indicative of recent credit quality but rather reflect banks’ expectations for the future.
He noted the shift from a traditional system where rising loan defaults prompted increased provisions to a model driven by macroeconomic forecasting.
Currently, banks anticipate slowing economic growth, a rise in unemployment, and two interest rate cuts later this year. This situation could lead to more delinquencies and defaults as the year progresses.
Citi’s CFO Mark Mason highlighted that concerns are particularly concentrated among lower-income consumers, whose savings have diminished since the pandemic.
Mason observed a divergence in consumer behavior, noting that only the highest income quartile has greater savings than they did at the start of 2019. Those with high FICO scores are more responsible for spending growth while lower-scoring customers are falling behind in payments and borrowing more due to the high inflation and interest rates.
The Federal Reserve has maintained interest rates at a 23-year high of 5.25-5.5% in anticipation of inflation stabilizing around its 2% target before proceeding with expected rate cuts.
Despite banks bracing for potential defaults later in the year, Mulberry indicated that defaults have not yet surged at levels indicative of a consumer crisis. He also noted the differences in financial stress between homeowners and renters since the pandemic.
While homeowners benefitted from locking in low fixed rates, renters have struggled, facing rental increases over 30% from 2019 to 2023, compounded by grocery costs rising 25% during the same period. Renters have been particularly impacted as their challenges exceed wage growth.
In terms of bank performance, analysts reported that there were no significant new concerns regarding asset quality this quarter. Strong revenues and net interest income suggest a healthy banking sector, with Mulberry expressing some relief that the financial system remains robust despite the pressure of sustained high interest rates.