With interest rates at their highest in over 20 years and inflation weighing heavily on consumers, major banks are taking precautions against potential risks associated with 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 banks to cover possible losses from credit risks, which include unpaid debts and lending issues, particularly in commercial real estate.
JPMorgan allocated $3.05 billion for credit loss provisions in the second quarter, while Bank of America set aside $1.5 billion. Citigroup’s allowance for credit losses reached $21.8 billion by the end of the quarter, more than tripling its reserve from the prior quarter. Wells Fargo reported provisions of $1.24 billion.
These increased provisions indicate that banks are bracing for a riskier landscape, where both secured and unsecured loans may lead to greater losses. A recent analysis by the New York Fed revealed that American households owe a staggering $17.7 trillion in consumer loans, student loans, and mortgages.
As pandemic-era savings diminish, credit card issuance and delinquency rates are rising. According to TransUnion, credit card balances hit $1.02 trillion in the first quarter of this year, marking the second consecutive quarter where the total exceeded one trillion dollars. Furthermore, the commercial real estate sector remains vulnerable.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, noted that consumers are still recovering from the impacts of COVID, especially regarding banking and overall financial health, largely attributed to prior stimulus measures.
However, challenges for banks are anticipated in the coming months. Mark Narron, a senior director at Fitch Ratings, explained that the provisions reported each quarter reflect banks’ expectations for the future rather than past credit quality.
Banks forecast a slowing economy, higher unemployment rates, and potential interest rate cuts later this year, which could lead to more delinquencies and defaults as 2023 comes to a close. Citigroup’s chief financial officer Mark Mason highlighted that concerns are especially prevalent among lower-income consumers, who have experienced dwindling savings since the pandemic.
While the U.S. consumer market remains resilient overall, Mason pointed out performance disparities across different income levels and credit scores. Only the highest income quartile has managed to save more than they initially had in 2019, with consumers in the lower credit score brackets facing greater financial hardships as interest rates and inflation climb.
The Federal Reserve has maintained interest rates between 5.25% and 5.5%, the highest in 23 years, awaiting stabilization in inflation measures before implementing expected rate cuts.
Although banks are preparing for potential defaults, Mulberry notes that current rates of defaults do not indicate an impending consumer crisis. He emphasized the difference in financial experiences between homeowners, who locked in low fixed rates, and renters, who have faced rising rates and costs.
Since rents have increased by over 30% nationwide from 2019 to 2023 and grocery prices have surged by 25%, renters without low-rate locks are experiencing the most significant financial strain in their budgets.
Despite the challenges, analysts have noted that the banking sector continues to display strong revenue, profits, and net interest income, suggesting overall health within the industry. Mulberry remarked on the robustness of the financial system, while also cautioning that prolonged high interest rates will continue to exert stress.