Major U.S. Banks are expected to show strong financial reserves in the Federal Reserve’s annual stress test results. They’re likely to be cautious about paying dividends and buying back shares due to the economic and regulatory uncertainties.
On Wednesday, the central bank will unveil its annual Bank stress tests results. These tests evaluate banks’ preparedness for serve economic downturns and determine how much they can distribute to investors through dividends and share buybacks.
The results are being released following the failures of three large banks last year, coinciding with increased Federal Reserve interest rates that are putting pressure on the regional lender’s profits and there commercial real estate holdings. Additionally, decreased consumer demand has tempered optimism about the economy’s direction.
This year’s tests, featuring a greater number of mid-sized banks, will offer new perspectives on the financial health of these institutions. Introduced after the 2007-2009 financial crisis, this annual evaluation is crucial for banks’ strategic capital planning. The upcoming results are expected to support Wall Street banks’ efforts to oppose proposed capital increases by the Fed, arguing that large banks already have ample liquidity. Bank groups will closely analysis Wednesday’s outcomes for evidence that bolsters their stance. However, they will tread cautiously on dividends and share buybacks, mindful that large payouts could weaken their argument against additional capital requirements that might restrict lending capacity.
“The stress test could become a proxy battle in the broader regulatory reform debate,” noted Ed Mills from Raymond James. He suggested that while there might be some uptick in returning capital to shareholders, it is likely to be restrained given the ongoing evolution of capital regulations.
This year, a total of 32 lenders are slated for examination. Among them, prominent Wall Street institutions like JPMorgan Chase, Citigroup, Bank of America, Goldman Sachs, Wells Fargo, and Morgan Stanley typically undergo the most rigorous scrutiny.
According to analysts at Keefe, Bruyette & Woods, Citi, Goldman Sachs, and smaller lender M&T Bank are expected to see positive performance due to adjustments in their balance sheet strategies. Meanwhile, investor concerns persist regarding regional banks, with mid-sized lenders like Citizens, KeyCorp, and Truist likely to attract attention. Discover Financial Services, facing compliance challenges that have made it a target for acquisition, also remains noteworthy in current discussions.
A spokesperson for KeyBank highlighted the institution’s robust capitalization, strong credit quality, and solid deposit profiles. The spokesperson also noted KeyBank’s moderate risk profile and diverse funding sources.
Conversely, spokespeople for Wells Fargo, Citi, Morgan Stanley, Truist, and M&T Bank chose not to provide comments. Requests for comment from Goldman Sachs, JPMorgan, Citizens, and Discover went unanswered.
- Capital Resilience in Focus Amid Regulatory Stress Tests.
The banking industry has demonstrated robust performance in recent years, yet criticism persists regarding the stringency of regulatory stress tests. Following the 2023 bank failures, the Federal Reserve faced scrutiny for its perceived oversight in assessing lenders’ readiness to withstand higher interest rates.
Analysts anticipate that all 32 banks subject to this year’s stress tests will exhibit capital levels well above regulatory thresholds. In the previous year, despite a severe economic scenario predicting significant losses totaling $541 billion across 23 banks, these institutions maintained capital reserves exceeding twice the required Federal Reserve mandates.
This year’s stress test mirrors the severity of 2023’s assessment but includes approximately 10 banks that tested less frequently. The 2024 “severely adverse” scenario envisages a 6.3-percentage-point spike in unemployment, reaching a peak of 10%. It also forecasts sharper declines in the stock and bond markets compared to the previous year, although housing market downturns and overall economic impacts are expected to be slightly less severe.
A recurring concern highlighted in the stress test scenario is the commercial real estate (CRE) sector, with anticipated 40% declines in CRE prices. Lingering office vacancies from the pandemic era and elevated interest rates continue to strain landlords, amplifying industry scrutiny.
The performance of each bank under stress conditions directly influences the size of its stress capital buffer (SCB). This buffer represents additional capital mandated by the Fed to withstand economic shocks beyond daily operational requirements. Analysts from Piper Sandler and KBW forecast that SCBs across most banks will remain stable. However, they predict declines in SCBs for institutions like Citi and Goldman Sachs, attributed to strategic reductions in international consumer loans and lower exposures in equity and real estate investments, respectively.
KBW analysts also anticipate a reduction in M&T Bank’s SCB due to proactive measures aimed at decreasing its CRE exposure. According to KBW, KeyCorp and Truist may see their stress capital buffers (SCBs) rise due to the potential income impacts outlined in recent analyses. Christopher Wolfe, Fitch’s head of North American bank ratings, emphasized that investor attention will center on the performance of banks’ commercial real estate (CRE) loans. This scrutiny underscores ongoing concerns within the banking sector regarding the resilience of CRE portfolios amidst economic stressors.