As interest rates reach a peak not seen in over 20 years and inflation continues to pressure consumers, major banks are gearing up for increased risks related to their lending activities.
In the second quarter of this year, JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo all boosted their provisions for credit losses compared to the previous quarter. This provision serves as a financial cushion that banks set aside to mitigate potential losses arising from credit risk, which can include bad debts and challenges related to commercial real estate loans.
JPMorgan set aside $3.05 billion for credit losses in the last quarter, while Bank of America allocated $1.5 billion. Citigroup’s allowance for credit losses reached $21.8 billion by quarter’s end, more than tripling its build from the prior quarter. Wells Fargo reported provisions of $1.24 billion.
These increased reserves indicate that banks are preparing for a more challenging lending environment, where both secured and unsecured loans may result in larger losses. A recent analysis by the New York Federal Reserve revealed that American households collectively owe $17.7 trillion across various forms of loans, including mortgages and student loans.
Additionally, the rise in credit card issuance and delinquency rates reflects a worrying trend as individuals exhaust their savings accumulated during the pandemic and increasingly rely on credit. In the first quarter of this year, credit card balances surpassed $1 trillion for the second consecutive quarter, according to TransUnion. The commercial real estate sector also faces uncertain challenges.
“We are still emerging from the COVID era, with much of the impact on banking and consumer health stemming from the stimulus provided to consumers,” remarked Brian Mulberry, a client portfolio manager at Zacks Investment Management.
Experts anticipate that any potential banking troubles are likely to surface in the forthcoming months. Mark Narron, a senior director in Fitch Ratings’ Financial Institutions Group, explained that quarterly provisions do not solely reflect recent credit quality but rather banks’ expectations for future developments.
Currently, banks are forecasting slowing economic growth, an uptick in unemployment, and two anticipated interest rate cuts later this year, which could lead to further delinquencies and defaults by year’s end.
Citigroup’s CFO, Mark Mason, highlighted that concerns seem to affect lower-income consumers, who have experienced significant declines in their savings since the pandemic. “While the overall U.S. consumer remains resilient, we’re observing varying performance levels across different income and credit score brackets,” he noted.
As the Federal Reserve maintains interest rates at a 23-year high of 5.25-5.5%, it awaits inflation metrics to stabilize near its 2% target before implementing any rate cuts.
Despite banks bracing for a rise in defaults later this year, Mulberry indicates that current default rates have not yet reached levels signaling a consumer crisis. He noted the contrasting experiences of homeowners, who locked in low fixed mortgage rates during the pandemic, with those who rented and now face soaring rental costs.
Since 2019, rent has surged more than 30% across the nation, and grocery prices have risen by 25%. Renters, lacking the opportunity to secure low rates, are facing the most financial strain, as inflation continues to outpace wage growth.
For now, the recent earnings reports highlight that there have been no significant changes in asset quality, according to Narron. Strong revenues, profits, and healthy net interest income reflect a robust banking sector.
“There is strength in the banking sector that may not have been entirely expected, providing reassurance that the financial system remains stable,” Mulberry concluded. “However, we must remain vigilant, as prolonged high interest rates are likely to create additional stress.”