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Investors waiting for another round of earnings were greeted by Friday’s reports from the nation’s biggest banks showing that profits rose across the sector, boosted by the Federal Reserve’s high-interest rate environment.
Investors, however, may have been startled when banks like JPMorgan Chase & Co JPM said they are increasing their provisions for bad loans, as they brace for what they call a base-case mild recession.
What Happened? JPMorgan Chief Executive Jamie Dimon said Friday that its fourth-quarter profit rose 6%, boosted by rising interest rates that sent its core lending income to a record high.
The bank posted net income of $11.01 billion, or $3.57 per share, beating the consensus estimate of $3.08 per share.
But, JPMorgan also said that it posted a $2.3-billion provision for bad loans in the quarter, a 49% increase from the third quarter, setting aside money for anticipated delinquencies as its American clients accumulate bad debt. During a call with reporters, Dimon said, “It may be a mild recession. It may not be,” according to The Wall Street Journal.
Chase wasn’t the only bank to increase provisions for bad loans.
Bank of America Corp BAC also made a move on its reserves for soured loans, adding $403 million, reversing from the release of $851 million in reserves one year ago.
Citigroup Inc C did too, adding $640 million for bad consumer credit loans.
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Why It Matters: It’s important to understand the ambivalent relationship between the Fed’s interest rates, and its effects on banks.
On the positive side, higher interest rates can lead to an increase in bank profits — we saw this Friday when banks issued earnings.
When the Fed raises interest rates, banks are able to charge higher interest rates on loans, which can lead to higher revenue for the bank.
Additionally, banks often invest a portion of their assets in Treasury bonds and other fixed-income securities. As interest rates rise, the value of these investments increases, which can also contribute to an increase in bank profits.
On the other hand, the current high-interest rate environment increases the cost of borrowing for consumers and businesses. This can lead to a decrease in borrowing and spending, which can ultimately have a negative impact on economic growth.
As interest rates rise, banks may also experience an increase in defaults on loans — this is why most of them are increasing provisions for defaults and delinquencies. Often a telltale sign of an economic downturn ahead.
While banks are getting ahead of the curve, prepping for an economic downturn, their earnings reports do not show a recession in the future, yet.
Historically, during a recession, banks see a decrease in loan demand that ultimately leads to lower revenues from interest rates, and fees.
JPMorgan said Friday that spending on credit cards rose 12% from a year ago and loans on cards were up 20%. It also said total loans rose 5% as big- and medium-size businesses borrowed more.
Read next: S&P 500 Makes Weekly Gains As Inflation Cools: What’s Next For The Market?
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Image and article originally from www.benzinga.com. Read the original article here.