With interest rates at their highest in over 20 years and inflation affecting consumers, major banks are preparing for increased risks associated with their lending practices.
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In the second quarter, major financial institutions including JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo increased their provisions for credit losses compared to the previous quarter. These provisions are funds set aside to cover potential losses from credit risks, such as bad debts and loans, particularly in commercial real estate.
JPMorgan set aside $3.05 billion for credit losses in the second quarter; Bank of America allocated $1.5 billion; Citigroup’s total allowance for credit losses reached $21.8 billion by quarter’s end, significantly increasing its reserves; and Wells Fargo provisioned $1.24 billion.
This increase in provisions indicates that banks are preparing for a riskier lending environment, where both secured and unsecured loans might lead to greater losses. A recent analysis from the New York Fed highlighted that total household debt in the U.S. has reached $17.7 trillion across consumer loans, student loans, and mortgages.
The rise in credit card issues and delinquency rates reflects a trend where consumers, depleting their pandemic-era savings, are leaning more on credit. Credit card debt surpassed $1 trillion for the second consecutive quarter, as reported by TransUnion. Additionally, the commercial real estate sector remains vulnerable.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, remarked on the lingering effects of the COVID-19 pandemic on consumer banking health, noting the impact of stimulus measures.
Experts suggest that any problems for banks are likely to manifest in the coming months. Mark Narron, a senior director at Fitch Ratings, explained that the provisions reported now are forecasts rather than reflections of past credit quality.
Banks predict slowing economic growth, increased unemployment, and a likelihood of two interest rate cuts later this year in September and December. These factors could lead to more delinquencies and defaults as the year ends.
Citi’s CFO Mark Mason pointed out that the warning signs are increasingly evident among lower-income consumers, whose savings have diminished post-pandemic.
“While the overall U.S. consumer remains resilient, there is a divergence in performance among different income levels,” Mason stated during an analyst call. Only the highest income group has maintained or increased their savings since early 2019.
The Federal Reserve has maintained interest rates at a 23-year high of 5.25-5.5%, awaiting stability in inflation levels towards its 2% target before proceeding with anticipated rate cuts.
Although banks brace for more defaults later in the year, Mulberry notes that current default rates do not indicate an impending consumer crisis. He emphasizes the contrasting situation between homeowners and renters during the pandemic.
While homeowners benefitted from low fixed rates, renters, who faced rising costs, have not had the same opportunity and are currently under financial pressure, given that rental prices have surged over 30% nationwide since 2019.
Despite these concerns, the latest earnings reports revealed no significant issues regarding asset quality. Positive indicators such as strong revenues and profits suggest the banking sector remains healthy, with a robust financial structure.
Mulberry concluded, “There is strength in the banking sector that is reassuring. However, ongoing high-interest rates will inevitably cause more strain in the future.”