As interest rates remain at their highest levels in over two decades and inflation continues to pressure consumers, major banks are bracing for potential risks stemming from 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 possible losses from credit risks, such as overdue debts and problematic loans, including those related to commercial real estate (CRE).
JPMorgan allocated $3.05 billion for credit losses, while Bank of America set aside $1.5 billion. Citigroup increased its allowance for credit losses to $21.8 billion, more than tripling its reserves from the prior quarter, and Wells Fargo recorded provisions of $1.24 billion.
Such increased reserves indicate that banks are preparing for a challenging economic environment, where both secured and unsecured loans may lead to significant losses. A study by the New York Fed revealed that U.S. households currently owe a total of $17.7 trillion in consumer loans, student loans, and mortgages.
Furthermore, credit card issuance is escalating, with rising delinquency rates as consumers exhaust their pandemic savings. Credit card debt reached $1.02 trillion in the first quarter, marking the second consecutive quarter where total cardholder balances surpassed the trillion-dollar threshold, according to TransUnion. CRE loans also remain in a vulnerable position.
Financial analysts point out that the economic impacts of the pandemic, particularly the stimulus measures aimed at consumers, still linger. However, any banking woes are anticipated in the months to come.
Mark Narron from Fitch Ratings explained that the provisions reported are not necessarily reflective of past credit quality but rather expectations for the future. He noted a shift in how banks manage provisioning, which is now heavily influenced by macroeconomic forecasts rather than just historical loan performance.
Looking ahead, banks project slower economic growth, increased unemployment, and two expected interest rate cuts in September and December this year. This scenario could result in more delinquencies and defaults as the year progresses.
Citi’s Chief Financial Officer Mark Mason highlighted concerns primarily affecting lower-income consumers who have seen their savings diminish since the pandemic. He noted a disparity in performance among consumer clients, indicating that only the highest-income households have increased their savings since early 2019, whereas lower-income consumers are experiencing a decline in payment rates due to high inflation and interest rates.
The Federal Reserve has maintained interest rates at a 23-year high of 5.25-5.5%, awaiting stabilization of inflation toward a 2% target before implementing anticipated rate cuts.
Despite banks preparing for increased defaults, current default rates do not signal a consumer crisis, according to Mulberry. He emphasized the difference in experiences between homeowners and renters during this period. Homeowners who secured low fixed rates on their mortgages have not felt significant financial strain, while renters face substantial increases in housing costs.
With rents escalating over 30% nationwide and grocery prices rising 25% between 2019 and 2023, renters are experiencing the most financial pressure.
Overall, the latest earnings reports suggest that the banking sector remains healthy, with no alarming changes in asset quality. There are robust revenues, profits, and steady net interest income, indicating resilience within the banking industry. Analysts express relief that the financial system’s structure remains strong, although they remain cautious, given the potential stress from persistently high interest rates.