With interest rates at their highest in over two decades and inflation continuing to pressure consumers, major banks are bracing for increased risks linked to their lending practices.
In the second quarter, JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo all raised their credit loss provisions compared to the previous quarter. These provisions represent the funds that financial institutions reserve to mitigate potential losses from credit risks, such as bad debt and various lending sectors, including 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 amounted to $21.8 billion at the close of the quarter, more than tripling its prior quarter’s reserves. Wells Fargo provided $1.24 billion for this purpose.
These increased reserves indicate that banks are preparing for a challenging lending environment, where both secured and unsecured loans could result in greater losses. A recent analysis from the New York Federal Reserve revealed that American households are burdened with $17.7 trillion in consumer loans, student loans, and mortgages.
Credit card issuance and delinquency rates are also rising, as individuals deplete their pandemic-era savings and increasingly rely on credit. In the first quarter of this year, credit card balances surpassed $1 trillion for the second consecutive quarter, according to TransUnion. Meanwhile, commercial real estate remains under threat.
Experts attribute these trends to the lingering effects of the COVID-19 pandemic, which were initially cushioned by government stimulus. Brian Mulberry, a portfolio manager at Zacks Investment Management, noted that while banks are raising provision levels, these figures reflect anticipated future credit quality rather than recent trends.
In the upcoming months, banks project slower economic growth, a bump in unemployment rates, and potential interest rate cuts later in the year, which may lead to increased delinquencies and defaults.
Citi’s CFO Mark Mason highlighted that concerning trends are particularly notable among lower-income consumers, who have seen their savings dwindle since the pandemic began. He stated that while the overall U.S. consumer appears resilient, disparities exist based on income levels and credit scores. Only the top income quartile has accumulated more savings since early 2019, while those in lower credit score brackets are facing declining payment rates and exacerbated financial stress due to inflation and high interest rates.
The Federal Reserve has maintained interest rates at a 23-year high of 5.25% to 5.5%, awaiting stabilization in inflation to target before implementing anticipated rate cuts.
Despite the potential for increased defaults later this year, experts indicate that the current level of defaults does not suggest a consumer crisis. Mulberry pointed out that homeowners who locked in low fixed rates are less affected by current rate increases than renters, who are facing rising rents and grocery costs.
Ultimately, the latest earnings reports indicate that there are no new issues regarding asset quality within the banking sector. Strong revenues, profits, and robust net interest income are encouraging signs of a still-healthy banking landscape. With the continued high interest rates, however, there is a growing concern regarding escalating stress within the financial system.