As interest rates remain at their highest in over two decades and inflation continues to impact consumers, major banks are gearing up for potential challenges stemming from 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 are funds set aside by financial institutions to cover possible losses from credit risks, such as delinquent debts and loans, including those related to commercial real estate.
JPMorgan allocated $3.05 billion for credit losses in the second quarter, while Bank of America reserved $1.5 billion. Citigroup’s allowance reached $21.8 billion at the end of the quarter, marking a significant increase from the prior period, and Wells Fargo set aside $1.24 billion.
These increased reserves reflect the banks’ preparations for a riskier financial landscape, where both secured and unsecured loans could result in greater losses. A recent report by the New York Fed revealed that Americans currently owe a total of $17.7 trillion in consumer loans, student loans, and mortgages.
Furthermore, credit card issuance and delinquency rates are on the rise as consumers deplete their savings from the pandemic and turn to credit more frequently. Credit card balances reached $1.02 trillion in the first quarter of the year, representing the second consecutive quarter where total balances surpassed the trillion-dollar threshold, according to TransUnion. The commercial real estate sector continues to face significant uncertainty.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, noted that financial conditions are still recovering from the COVID era, primarily influenced by the stimulus funds provided to consumers.
However, banks face potential challenges in the coming months. Mark Narron, a senior director in Fitch Ratings’ Financial Institutions Group, explained that the provisions displayed in quarterly reports do not necessarily indicate the recent credit quality but instead signal banks’ expectations for future conditions.
Currently, banks anticipate slowing economic growth, a rising unemployment rate, and two interest rate cuts later this year, which could lead to more delinquencies and defaults as the year concludes.
Mark Mason, Citigroup’s chief financial officer, pointed out that warning signs are particularly evident among lower-income consumers, who have seen their savings diminished since the pandemic began. He mentioned that only the wealthiest income quartile has maintained increased savings since early 2019, suggesting a disparity in financial health among consumers.
The Federal Reserve has maintained interest rates at 5.25-5.5%, the highest in 23 years, as it monitors inflation trends before making the anticipated rate cuts.
Despite preparations for a possible rise in defaults later this year, Mulberry believes that current default rates do not indicate an impending consumer crisis. He emphasized the need to differentiate between the experiences of homeowners and renters during this period.
While homeowners with fixed rates from the pandemic are not feeling the financial strain as much, renters face challenges with rising rental prices, which have increased over 30% nationwide since 2019, along with a 25% rise in grocery costs during the same timeframe.
Overall, the latest earnings reports indicate that there are no new concerns regarding asset quality. Rather, the banking sector continues to demonstrate strong revenues, profits, and a resilient net interest income, signaling stability within the industry.
Mulberry concluded that while there is considerable strength in the banking sector, ongoing high interest rates are likely to create increasing pressure over time.