Friday, March 15, 2013

Stress Test

Said the Fed to the banks in its purview:
"Sorry chaps, we don't mean to unnerve you,
But if panic should surge,
Our views would diverge
On the capital that would best serve you."

The Fed has announced the results of its annual stress tests of 18 of America's largest banks, and most of them are substantially less favorable than the results calculated by the banks themselves.  Nevertheless, 14 of the banks have passed the test, which estimates the adequacy of a bank's capital in the event of a severe economic downturn.  The Fed has approved the dividend and share buyback plans of those 14 banks, which include Citigroup, Wells Fargo, Morgan Stanley and Bank of America.  The pressure having abated for the moment, these banks may presumably join in this weekend's St. Patrick's Day festivities with clean consciences.

Two other firms - Goldman Sachs and J.P. Morgan - may proceed with dividend and share buyback plans as long as they submit improved capital plans by September.  Not so fortunate are Ally Financial and BB&T Corp, for whom dividends and buybacks are verboten for the time being.  Ally, the former GM financial arm which is now majority owned by the government, was found to risk depleting its capital if the effectuation of its capital plans were followed by a bad recession.  Waxing wroth, the bank responded that its capital levels are more reasonable than the Fed's loan-loss assumptions.

Dividends and share buybacks are favored means of raising a stock's appeal to investors, as they put more cash in shareholders' pockets or raise the share price, respectively.  However, both measures reduce capital, a cause for concern among regulators who must ensure the safety and soundness of the financial system.

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