JPMorgan Chase, Bank of America, Citigroup, and Wells Fargo are preparing for increased risks from their lending practices as interest rates reach over two-decade highs and inflation continues to impact consumers. In the second quarter, these large banks raised their provisions for credit losses, which are funds set aside to cover potential losses from credit risk associated with bad debt and loans.
JPMorgan allocated $3.05 billion for credit losses, while Bank of America set aside $1.5 billion. Citigroup reported a total of $21.8 billion in its allowance for credit losses, more than tripling its reserve from the previous quarter. Wells Fargo’s provisions amounted to $1.24 billion. This buildup indicates that banks are bracing for a more uncertain economic environment where both secured and unsecured loans may lead to larger losses.
Recent data from the New York Fed highlights that American households collectively owe $17.7 trillion in consumer, student, and mortgage loans. Credit card usage and delinquency rates are rising as many individuals exhaust their pandemic-era savings and increasingly depend on credit. According to TransUnion, credit card balances reached $1.02 trillion in the first quarter, the second consecutive quarter surpassing the trillion-dollar mark.
Brian Mulberry, a client portfolio manager at Zacks Investment Management, noted that the banking sector is still navigating the aftermath of the COVID-19 pandemic, particularly due to the stimulus measures implemented during that time. However, potential issues for banks are expected to surface in the coming months.
Mark Narron, a senior director in Fitch Ratings’ Financial Institutions Group, explained that the provisions indicated in any quarter reflect banks’ expectations rather than past credit quality. He pointed out a shift from a system where provisions increased only after loan defaults to one where macroeconomic forecasts dictate provisioning activities.
In light of anticipated slowing economic growth, a rising unemployment rate, and predicted interest rate cuts later this year, banks may face higher delinquency and default rates. Citigroup’s CFO, Mark Mason, emphasized that emerging red flags chiefly affect lower-income consumers, who have seen their savings diminish significantly since the pandemic.
Mason indicated that only the highest income quartile has managed to save more compared to early 2019, with those possessing high credit scores maintaining spending and payment rates. In contrast, customers with lower credit scores are experiencing greater financial strain due to rising inflation and interest rates.
The Federal Reserve has maintained interest rates at 5.25-5.5%, the highest level in 23 years, while awaiting signs of inflation stabilizing towards the target of 2% before implementing any rate cuts.
Despite banks bracing for potential defaults, current rates are not indicating a consumer crisis, according to Mulberry. He noted a distinct difference between homeowners, who locked in low fixed rates, and renters, who face rising rental costs without similar protection.
With rents increasing by more than 30% from 2019 to 2023 and grocery prices rising 25%, many renters are feeling the pressure more acutely than homeowners, according to Mulberry.
Overall, Narron noted that the latest earnings reports did not reveal new issues regarding asset quality. Strong revenues and resilient net interest income are positive signs for the banking sector’s health. Mulberry concluded by expressing confidence in the stability of the financial system, while cautioning that sustained high-interest rates could lead to increased stress in the future.