As interest rates remain at highs not seen in over two decades and inflation continues to pressure consumers, major banks are bracing for increased risks stemming from their lending practices.
In the second quarter, JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo all raised 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 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. Citigroup reported an allowance for credit losses of $21.8 billion, which reflects a significant increase from the prior quarter’s reserves. Wells Fargo’s provisions amounted to $1.24 billion.
These increases signal that banks are preparing for a more challenging lending environment, where both secured and unsecured loans may lead to greater losses. A recent analysis from the New York Federal Reserve revealed that Americans collectively owe $17.7 trillion across consumer loans, student loans, and mortgages.
Additionally, the trend in credit card issuance and delinquency rates is rising as consumers deplete their pandemic-era savings and turn increasingly to credit. Total credit card balances reached $1.02 trillion in the first quarter of this year, marking the second consecutive quarter that totals exceeded that threshold. The commercial real estate sector also continues to face uncertainties.
Experts suggest that as banks navigate these issues, they are also still experiencing the effects of the COVID-19 era stimulus programs. Brian Mulberry, a client portfolio manager at Zacks Investment Management, emphasized the impact of previous economic measures on the current banking landscape.
Mark Narron, a senior director in Fitch Ratings’ Financial Institutions Group, noted that current provisions do not necessarily reflect the bank’s recent credit quality but rather their expectations for future trends. He highlighted a shift from a focus on past loan performance to a more forward-looking approach based on macroeconomic forecasts.
The economic outlook includes expectations for slower growth, a rising unemployment rate, and potential interest rate cuts in September and December, which could lead to increased delinquencies and defaults as the year concludes.
Citi’s chief financial officer, Mark Mason, pointed out that the emerging concerns appear concentrated among lower-income consumers, who have seen their savings diminish since the pandemic began. He indicated that while the overall U.S. consumer remains resilient, there is notable performance divergence based on income and credit scores.
The Federal Reserve continues to maintain interest rates at a 23-year high of 5.25-5.5%, awaiting stability in inflation measures before implementing anticipated rate cuts.
While banks are preparing for higher default rates in the latter half of the year, current default rates do not indicate a consumer crisis, according to Mulberry. He is particularly interested in the distinctions between homeowners and renters through the pandemic, noting that homeowners generally secured low fixed mortgage rates and have not felt significant financial strain.
In contrast, renters, who have faced rent increases exceeding 30% since 2019 and grocery price hikes of 25%, are under more pressure as their budgets are squeezed by rising costs that have outpaced wage growth.
Despite the challenges, the latest earnings reports reveal that asset quality remains stable. Strong revenues and profits, coupled with resilient net interest income, suggest a still-vibrant banking sector. Mulberry remarked on the overall strength of the financial system, though noted that prolonged high interest rates could induce greater stress over time.