With interest rates at their highest in over 20 years and inflation affecting consumers, major banks are preparing for increased risks in 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 potential losses from bad debt and lending, particularly in commercial real estate (CRE) loans.
Specifically, JPMorgan allocated $3.05 billion for credit losses, while Bank of America set aside $1.5 billion. Citigroup’s allowance for credit losses reached $21.8 billion, more than tripling its reserves from the prior quarter, and Wells Fargo’s provisions were $1.24 billion.
The accumulation of these reserves indicates that banks are bracing themselves for a riskier financial environment, where both secured and unsecured loans may lead to larger losses. The New York Federal Reserve’s analysis shows that the total household debt in the U.S. has reached $17.7 trillion, encompassing consumer loans, student loans, and mortgages.
Additionally, the increase in credit card issuance has come with a rise in delinquency rates as consumers, depleting their pandemic-era savings, turn to credit sources more than ever. According to TransUnion, credit card balances reached $1.02 trillion in the first quarter, marking the second consecutive quarter surpassing the trillion-dollar milestone. The CRE sector also remains in a challenging predicament.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, noted the influence of stimulus measures during the COVID-19 pandemic on the health of consumer banking.
Experts advise that any looming issues for banks will likely surface in the coming months. Mark Narron, a senior director at Fitch Ratings, stated that the provisions reported each quarter do not reflect past credit quality but are rather a forecast of expected future conditions.
Narron mentioned that banks are anticipating slower economic growth and higher unemployment, with interest rate cuts expected in September and December, which could lead to more delinquencies and defaults as the year concludes.
Citi’s CFO, Mark Mason, highlighted that signs of financial trouble seem most pronounced among lower-income consumers, whose savings have diminished since the pandemic.
“There is a noticeable disparity in performance and behavior across income levels,” Mason remarked, adding that only the highest income group has managed to save more than they did before 2019, while customers with lower credit scores are borrowing more and facing declining payment rates.
The Federal Reserve currently maintains interest rates at a 23-year high of 5.25-5.5% as it awaits inflation measurements to stabilize towards a target of 2% before potentially implementing rate cuts.
Despite banks bracing for rising defaults later this year, Mulberry indicated that defaults have not yet escalated to a level indicative of a consumer crisis. He suggested observing the differences between homeowners who locked in low fixed rates during the pandemic and renters who did not.
Rent prices have surged over 30% nationwide from 2019 to 2023, with grocery costs rising 25% in the same period, putting significant pressure on renters who are struggling with increasing living expenses.
Overall, recent earnings reports reveal no drastic changes in asset quality. Narron confirmed that strong revenues and profits are signs of a still-robust banking sector. Mulberry concluded that while there is notable strength in the financial system, ongoing high interest rates could lead to increased stress down the line.