With interest rates at their highest levels in over 20 years and ongoing inflation pressures on consumers, major banks are bracing for increased risks associated with their lending practices.
In the second quarter, major financial institutions including JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo all increased their provisions for credit losses compared to the previous quarter. These provisions serve as a financial buffer against potential losses stemming from credit risks such as bad debts and loans, including commercial real estate (CRE) loans.
JPMorgan set aside $3.05 billion for credit losses in the second quarter, while Bank of America reported $1.5 billion. Citigroup’s allowance for credit losses reached $21.8 billion by the end of the quarter, more than tripling its reserves from the prior quarter, and Wells Fargo allocated $1.24 billion.
These increased provisions reflect banks’ preparations for a more challenging lending environment, where both secured and unsecured loans could lead to greater losses. According to a recent analysis by the New York Federal Reserve, American households currently hold approximately $17.7 trillion in debt across consumer loans, student loans, and mortgages.
Credit card issuance and delinquency rates are rising as consumers exhaust their pandemic-era savings and increasingly rely on credit. TransUnion reports that credit card balances hit $1.02 trillion in the first quarter of this year, marking the second consecutive quarter where total cardholder balances surpassed one trillion dollars. Additionally, the commercial real estate sector remains in a vulnerable state.
Experts note that the lingering effects of the COVID-19 pandemic continue to influence banking practices and consumer health, primarily due to the government stimulus measures implemented during that time.
Looking ahead, any banking challenges are anticipated in the coming months. Mark Narron, a senior director at Fitch Ratings, explained that quarterly provisions do not solely reflect recent credit quality but rather banks’ forecasts for future credit conditions.
As banks foresee sluggish economic growth, a rise in unemployment, and potential interest rate cuts in September and December, analysts predict a possible increase in delinquencies and defaults by year’s end.
Citi’s chief financial officer, Mark Mason, highlighted concerns concentrated among lower-income consumers, who have seen their savings diminish since the pandemic began. He noted that while the overall U.S. consumer remains resilient, performance varies significantly across different income groups.
The Federal Reserve is maintaining interest rates between 5.25% and 5.5%, their highest in 23 years, pending stabilization in inflation towards the target of 2%.
Despite banks preparing for increased defaults later in the year, current default rates do not suggest an imminent consumer crisis, according to Brian Mulberry, a portfolio manager at Zacks Investment Management. He emphasized that homeowners who secured low fixed-rate mortgages during the pandemic are less affected by rising rates compared to renters, who face significantly higher rental costs.
Rent prices have surged over 30% nationwide from 2019 to 2023, while grocery costs have climbed by 25%. As a result, renters who did not benefit from lower rates are experiencing heightened financial strain.
Currently, the overall assessment from this quarter’s earnings indicates that asset quality remains stable. Strong revenues and profits, coupled with healthy net interest income, suggest a resilient banking sector.
Experts agree that while the banking system shows signs of strength, prolonged high-interest rates could lead to increased financial stress.