It approaches business as is usual for the largest banks in the United States when it comes to shareholder payments.
The Federal Reserve is scheduled to end the special restrictions implemented during the pandemic on the ability of most large banks to buy shares and pay dividends as of June 30, based on the results of annual stress tests. Banks will need to clear the minimum capital levels set by this exam. Typically, under the Fed’s stress testing regime, banks that don’t meet their requirements have the option to adjust their balance sheets and deal with restrictions that scale with the amount below their minimums. For the time being, however, a bank that does not meet the minimum stress test remains subject to current restrictions, which limits rewards based on subsequent net profit, for an additional quarter before the usual regime begins.
This decision comes after the Fed did something that could theoretically hinder bank payments, which was to let the exemption expire for central bank treasuries and reserves in measures of how big leveraged banks are. This means that large banks are now closer to their leverage limits. However, crucially, the Fed’s stress capital buffer regime does not include an extended leverage component. Therefore, this potential limitation may not take into account payment restrictions for now.
Assuming that this year’s stress test isn’t dramatically stricter than those of recent years, a significant amount of cash will have to be unlocked. Analysts at the Goldman Sachs Group estimate that the largest banks have the capacity under current rules, before the June 30 easing, to repurchase shares worth about $ 22 billion in the second quarter. Once the rules are relaxed, they estimate that the rewards could almost triple in the second half of the year, to $ 63 billion, or about 3% of the market value of these banks. Consumer lenders that have regained strength so far may have some of the biggest potential: Goldman analysts expect the biggest buyback in the second half of 2021 as a percentage of market value among Capital One Financial’s big banks.
The degree to which banks take advantage of this capacity is the next question. In theory, under the stress capital buffer regime that began last year but was not really used due to the pandemic, the rewards could come at a faster pace than in the past. However, if lending recovers strongly, risk-weighted assets will grow much faster than banks that buy primarily government bonds, which could put pressure on capital ratios. The rapid rise in book-price ratios of banking stocks could also discourage rewards.