As interest rates reach levels not seen in over two decades and inflation continues to impact consumers, major banks are bracing for increased risks in their lending activities.
In the second quarter, top banks including JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo raised their provisions for credit losses compared to the previous quarter. These provisions are funds set aside to mitigate potential losses stemming from credit risks, such as overdue debts and problematic loans, particularly in commercial real estate (CRE).
JPMorgan allocated $3.05 billion for credit losses during the second quarter, while Bank of America set aside $1.5 billion. Citigroup reported an allowance for credit losses totaling $21.8 billion, which represented a tripling of its reserves from the previous quarter. Wells Fargo’s provisions amounted to $1.24 billion.
These increased reserves indicate that banks are preparing for a more uncertain economic landscape, where both secured and unsecured loans could lead to greater losses. A recent study of household debt conducted by the New York Federal Reserve revealed that Americans currently owe a staggering $17.7 trillion in various forms of debt, including consumer loans, student loans, and mortgages.
Additionally, the rise in credit card issuance correlates with an uptick in delinquency rates, as many consumers tap into credit as their pandemic savings deplete. Credit card balances reached $1.02 trillion in the first quarter of this year, marking the second consecutive quarter where balances exceeded the trillion-dollar threshold, according to TransUnion.
Experts like Brian Mulberry, a client portfolio manager at Zacks Investment Management, reflect on the ongoing ramifications of the COVID-19 pandemic on consumer financial health, emphasizing the impact of government stimulus during that time.
However, challenges for banks are anticipated in the coming months. Mark Narron, a senior director in Fitch Ratings’ Financial Institutions Group, noted that current provisions may not accurately reflect the quality of credit for recent months, but rather the expectations of future economic trends.
Presently, banks expect slowing economic growth and a rising unemployment rate, alongside projected interest rate cuts later this year. Narron indicated that these factors may lead to increased delinquency and default rates as the year progresses.
Citi’s chief financial officer, Mark Mason, pointed out that vulnerabilities are particularly evident among lower-income consumers, who have seen their savings diminish since the pandemic began. He remarked that while the overall U.S. consumer remains resilient, performance varies significantly among different income brackets.
Recent data highlights that only the top income quartile has more savings compared to 2019, with affluent customers driving spending growth and maintaining high payment rates, while those in lower FICO score bands are experiencing pronounced declines in payment rates and are increasingly reliant on borrowing due to persistent inflation and rising interest rates.
The Federal Reserve has held interest rates at a 23-year high, maintaining a range between 5.25% to 5.5%. The central bank plans to wait for inflation to stabilize near its 2% target before implementing anticipated rate cuts.
Despite preparations for possible defaults, current default rates do not indicate an impending consumer crisis, according to Mulberry. He highlighted a key distinction between homeowners, who secured low fixed-rate mortgages during the pandemic, and renters, who are now facing rising rental costs without similar financial protections.
Rents have surged by over 30% nationally from 2019 to 2023, while grocery prices have increased by 25%, putting additional pressure on renters whose wages have not kept pace.
Ultimately, the most recent earnings reports reveal no significant changes in asset quality, according to Narron. Positive indicators persist, with strong revenues, profits, and solid net interest income reflecting a healthy banking sector. Meanwhile, Mulberry emphasized the ongoing stability of the financial system but cautioned that sustained high interest rates could lead to increased strain over time.