As interest rates reach levels not seen in over 20 years and inflation continues to affect consumers, major banks are bracing for increased risks in their lending activities.
In the second quarter, JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo all augmented their provisions for credit losses compared to the previous quarter. These provisions are funds set aside by financial institutions to mitigate potential losses from credit risks, which can include delinquent loans and bad debt, particularly in commercial real estate (CRE).
JPMorgan increased its provision for credit losses by $3.05 billion during the second quarter. Bank of America set aside $1.5 billion, while Citigroup’s allowance reached $21.8 billion—more than tripling its reserves from the previous quarter. Wells Fargo’s provisions amounted to $1.24 billion.
The increased reserves signal that banks are preparing for a more challenging environment, as both secured and unsecured loans may lead to greater losses. Recent analysis from the New York Federal Reserve indicated that Americans collectively owe $17.7 trillion across consumer loans, student loans, and mortgages.
Rising credit card issuance and delinquency rates have also been observed as individuals deplete their pandemic-era savings and rely more on credit. Credit card balances surpassed $1 trillion for the second consecutive quarter, according to TransUnion. Additionally, the stability of the CRE sector remains uncertain.
According to Brian Mulberry, a portfolio manager at Zacks Investment Management, “We’re still coming out of this COVID era, with the health of the consumer largely influenced by stimulus measures.”
However, challenges for banks may arise in the coming months. Mark Narron, a senior director with Fitch Ratings, explained that current credit provisions reflect banks’ expectations for future economic conditions rather than past performance.
Currently, banks anticipate slower economic growth, rising unemployment, and two anticipated interest rate cuts in September and December, potentially leading to increased delinquencies and defaults as the year progresses.
Citi’s chief financial officer, Mark Mason, highlighted concerns primarily affecting lower-income consumers who have depleted their savings since the pandemic began. He noted that while the overall U.S. consumer appears resilient, significant disparities exist among different income brackets and credit scores. Only the highest-income quartile has managed to increase their savings since early 2019.
The Federal Reserve has maintained interest rates at a 23-year high of 5.25-5.5%, awaiting stabilization in inflation rates before implementing any anticipated cuts.
Despite banks preparing for potential defaults in the latter half of the year, experts suggest that current default rates do not indicate a widespread consumer crisis. Mulberry pointed out that homeowners who locked in low fixed rates during the pandemic are less affected by rising interest rates compared to renters, who are facing significant financial pressure from soaring rental costs.
From the latest earnings reports, Narron emphasized that there were no alarming changes regarding asset quality. Robust revenues, profits, and solid net interest income suggest the banking sector remains strong.
Mulberry echoed this sentiment, acknowledging the resilience of the financial system but cautioning that prolonged high interest rates could lead to increased stress in the future.