As interest rates reach their highest levels in over 20 years and inflation continues to pressure consumers, major banks are bracing for increased risks associated with their lending activities.
In the second quarter, JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo reported higher provisions for credit losses compared to the previous quarter. These provisions are funds that banks set aside to cover potential losses from credit risks, which include delinquent debts and commercial real estate loans.
JPMorgan allocated $3.05 billion for credit losses in the second quarter, while Bank of America set aside $1.5 billion. Citi’s allowance reached $21.8 billion by the end of the quarter, significantly increasing its reserves from the prior period, and Wells Fargo reported provisions of $1.24 billion.
These increased reserves reflect the banks’ preparations for a more challenging lending environment, where both secured and unsecured loans may result in greater losses. A recent analysis by the New York Federal Reserve highlighted that American households collectively owe $17.7 trillion in consumer loans, student debt, and mortgages.
Credit card issuance and delinquency rates are also rising as consumers exhaust their pandemic-era savings and increasingly rely on credit. According to TransUnion, credit card balances hit $1.02 trillion in the first quarter, marking the second consecutive quarter with total balances surpassing the trillion-dollar mark. Additionally, commercial real estate remains vulnerable.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, noted the lingering effects of the COVID-19 pandemic on consumer health, emphasizing the role of government stimulus in supporting consumers.
Experts indicate that challenges for banks may arise in the coming months. Mark Narron from Fitch Ratings explained that quarterly provisions do not reflect past credit quality, but rather banks’ expectations for future conditions.
Currently, banks anticipate slower economic growth, an increase in unemployment, and potential interest rate cuts in September and December. This could lead to higher rates of delinquencies and defaults as the year concludes.
Citigroup’s CFO, Mark Mason, pointed out that the emerging challenges are particularly evident among lower-income consumers, who have seen their savings diminish since the pandemic.
While the overall U.S. consumer remains resilient, there is a noted disparity in financial behavior across different income levels, with higher-income individuals maintaining savings and higher payment rates, while lower-income consumers are experiencing payment difficulties and increased borrowing due to inflation and rising interest rates.
Despite preparations for a potential increase in defaults, Mulberry observed that default rates have not yet escalated to levels indicative of a consumer crisis. He noted that homeowners, who locked in low fixed rates, are less affected by the current financial landscape compared to renters facing rising costs.
From 2019 to 2023, rents increased over 30% and grocery prices rose by 25%, putting significant pressure on renters’ budgets who missed the opportunity to secure lower rates.
Ultimately, the latest financial results show that there have been no new surprises regarding asset quality, with strong revenues and profits indicating ongoing stability in the banking sector. Mulberry highlighted that the banking system remains robust, but warned that prolonged high interest rates could increase stress on consumers and financial institutions.