Though the largest U.S. banks welcome rising interest rates to boost lending profitability, a gradual increase in consumer credit costs could eventually challenge some customers' ability to make loan payments and deter others from borrowing, analysts say.
The potential result for banks: slower loan growth, higher charge-offs and an overall downward shift in the credit cycle.
"Those are legitimate concerns," analyst Terry McEvoy of Stephens Inc. said in an interview.
Already, charge-offs are on the rise.
Net charge-offs at U.S. banks and thrifts in the 2017 fourth quarter increased 8.9% from a year earlier to $13.19 billion, according to S&P Global Market Intelligence data. Loan-loss provisions, meanwhile, were essentially flat at $13.61 billion.
However, McEvoy, other analysts and bankers do see more positives than negatives in the near term. The domestic economy and employment market are both strengthening, buttressing borrowers. And analysts say Federal Reserve policymakers' decision this week to hike their benchmark rate by 25 basis points — following three increases in 2017 and one late in 2016 — indicates confidence in the economy.
"The bias of risk in interest rates has moved to the upside," Wells Fargo & Co. Treasurer Neal Blinde said at a conference this month. He echoed favorable views on rates expressed this year by executives at peers JPMorgan Chase & Co., Bank of America Corp. and Citigroup Inc.
But those positive views could change.
If the Fed continues to bump up rates as expected — markets anticipate at least two more hikes this year, and more in 2019 — the rising cost of credit could dampen Americans' collective appetite for new loans. This would not only slow banks' growth, but it could also curb home and car sales as well as a range of other activity that supports the economy.
If the job market were to sputter — many economists say it is inevitable at some point after years of expansion — the combination of expensive credit and rising unemployment likely would lead to more loan losses for banks.
Using the recession of the past decade as a gauge, many analysts anticipate that indicators of a negative turn in the credit cycle will emerge first among consumers. And because the biggest U.S. banks have the largest consumer loan books, they are likely to serve as bellwethers on this front.
"Things still look really good right now," but a downturn in the credit cycle "is something we are watching for," Jeffery Harte, a Sandler O'Neill & Partners analyst, said in an interview.
There are other early hints of possible problems.
Souring consumer loans in 2017 accounted for a larger portion of total loan delinquencies than in the previous year. At the end of 2017, delinquent consumer loans made up 22.35% of total delinquencies, up 3.42 percentage points from a year earlier, according to an industrywide analysis by S&P Global Market Intelligence.
Auto loan delinquencies rose 34 basis points from a year earlier to 2.58%, while credit card delinquencies climbed by 14 basis points to 2.47%.
At least in part, the rising delinquencies reflect loan growth, which analysts expected. But if these rates continue to climb steadily in 2018, it could portend credit trouble.
"If rates continue rising, at some point credit is not affordable for some people, and it could cause problems," Harte said.