Major banks are gearing up for a challenging landscape as interest rates reach their highest levels in over two decades and inflation continues to impact consumers. 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 the funds set aside by banks to cover any potential financial shortfalls linked to credit risks, such as overdue debts and problematic loans, particularly in commercial real estate.
JPMorgan allocated $3.05 billion for credit losses, while Bank of America set aside $1.5 billion. Citigroup’s allowance for credit losses surged to $21.8 billion, more than tripling its reserve from the prior quarter. Wells Fargo also increased its provisions to $1.24 billion.
This accumulation of reserves indicates that banks are anticipating a more risky environment, with both secured and unsecured loans potentially resulting in larger losses. According to a recent report from the New York Fed, Americans now hold a staggering $17.7 trillion in household debt, which includes consumer loans, student loans, and mortgages.
The increase in credit card issuance is contributing to rising delinquency rates, as consumers exhaust their savings from the pandemic era and increasingly depend on credit. As of the first quarter of this year, total credit card balances reached $1.02 trillion, marking the second consecutive quarter that surpassed a trillion dollars, as reported by TransUnion. Additionally, commercial real estate remains in a fragile state.
Experts attribute part of the risk to the lingering effects of the COVID era and the significant stimulus provided to consumers. However, most challenges banks may face are projected to arise in the coming months.
“The provisions observed during a particular quarter do not necessarily reflect the credit quality of that period; instead, they forecast what banks anticipate will occur moving forward,” noted Mark Narron, a senior director at Fitch Ratings.
As banks navigate the near future, they expect slowed economic growth, increased unemployment rates, and two potential interest rate cuts later this year. These factors could lead to more delinquencies and defaults as the year progresses.
Citi’s CFO, Mark Mason, highlighted that the concerns about credit risk appear to be mainly affecting lower-income consumers, who have seen their savings dwindle since the pandemic began. Although the overall U.S. consumer remains resilient, significant disparities exist among different income brackets and credit scores.
Mason mentioned that only the top income quartile has managed to retain more savings than at the start of 2019, while those in lower credit bands are facing notable declines in payment rates and resorting to increased borrowing due to the pressures of high inflation and rising interest rates.
The Federal Reserve has maintained interest rates at a 23-year high of 5.25-5.5%, awaiting stabilization in inflation to approach its target of 2% before implementing any anticipated rate cuts.
Despite preparations for broader defaults in the latter half of the year, signs of a consumer crisis have not yet emerged. It is important to differentiate between the experiences of homeowners and renters during and after the pandemic, as homeowners benefitted from historically low fixed rates while renters have been affected by skyrocketing rental costs.
Overall, the latest earnings reports indicate that there are no new issues concerning asset quality. The banking sector reports strong revenues, profits, and robust net interest income, giving hope for continued stability. Experts assert that while the banking system remains sound, ongoing scrutiny is essential as prolonged high interest rates may exacerbate stress in the financial landscape.