With interest rates at their highest in over 20 years and inflation putting pressure on consumers, major banks are getting ready to navigate increased risks associated with 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 represent funds that banks set aside to account for potential losses from credit risks, such as delinquent or bad debts and loans, including commercial real estate (CRE) loans.
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 stood at $21.8 billion, more than tripling its reserves from the prior quarter, and Wells Fargo had provisions totaling $1.24 billion.
These increased reserves indicate that banks are preparing for a more challenging environment, where both secured and unsecured loans could lead to greater losses. A recent analysis from the New York Federal Reserve revealed that Americans collectively owe $17.7 trillion in consumer loans, student loans, and mortgages.
Credit card issuance and delinquency rates are also climbing as individuals deplete their savings accumulated during the pandemic and increasingly rely on credit. Credit card balances reached $1.02 trillion in the first quarter of this year, marking the second consecutive quarter where total cardholder balances exceeded the trillion-dollar threshold, according to TransUnion. Meanwhile, the CRE market remains in a delicate situation.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, remarked on the lingering effects of the COVID era and the role of stimulus in supporting consumer health.
However, challenges for banks may lie ahead. Mark Narron, a senior director at Fitch Ratings’ Financial Institutions Group, noted that the provisions set by banks reflect forward-looking expectations rather than the immediate past three months. The economic indicators suggest slower growth and a potential rise in unemployment, alongside anticipated interest rate cuts in September and December, which could lead to more delinquencies and defaults by the end of the year.
Citi’s chief financial officer, Mark Mason, pointed out that the warning signs are primarily concentrated among lower-income consumers who have seen their savings diminish since the pandemic. He highlighted that only the highest income quartile holds more savings than at the start of 2019, while consumers with lower credit scores are experiencing declines in payment rates and increased borrowing due to higher inflation and interest rates.
The Federal Reserve has maintained interest rates at a 23-year high of 5.25% to 5.5%, awaiting stabilization of inflation towards the central bank’s target of 2% before considering rate cuts.
Despite banks bracing for broader defaults later this year, there are no current signs of a consumer crisis, as per Mulberry’s observations. He noted a distinction between homeowners and renters during the pandemic, emphasizing that homeowners benefitted from locking in low fixed rates, while renters faced increasing costs.
Rental prices have surged over 30% nationwide from 2019 to 2023, with grocery prices rising 25%, placing considerable strain on renters who failed to secure low rates and whose wages have not kept pace with rising living costs.
Nonetheless, the latest earnings reports indicate that there are no significant new concerns regarding asset quality. Positive indicators such as strong revenues, profitability, and healthy net interest income suggest that the banking sector remains robust.
Mulberry concluded by expressing relief at the financial system’s stability, although he cautioned that prolonged high interest rates could lead to increased stress in the future.