Fed to give failing stress test banks second chance
The Federal Reserve will give the 19 largest banks a preliminary result of its capital stress test, offering institutions that fail a chance to adjust their dividend and stock buyback policies.
The change comes after Citigroup Inc. and SunTrust Banks Inc. (STI) narrowly missed meeting the 5 percent tier one common equity to risk- weighted assets minimum capital ratio in the 2012 test at 4.9 percent and 4.8 percent respectively. Ally Financial Inc. (ALLY) had a stressed ratio of 2.5 percent in the last test.
While the change gives bank boards a second chance, the Fed will also publish the result of their initial capital proposal, showing how far the firms missed in their first attempt. A severe shortfall on the first attempt will generate greater scrutiny of a bank’s capital planning process by regulators, according to a bank supervisor who declined to be identified because the tests are not completed. Even banks that pass the minimum stress ratio could fail if the Fed detects their capital planning process is flawed, the Fed’s instructions said.
“The ability to appeal obviously not only reflects Citi and SunTrust, but a lot of requests from the industry for a second hearing,” said Karen Shaw Petrou, managing partner at Federal Financial Analytics, a Washington consulting firm specializing in bank regulation.
The Fed’s disclosure of a bank’s preliminary request “injects a lot of rigor into the process,” she said. “There is tremendous pressure on the banks now on getting it right the first time.”
The Fed established the annual stress tests in 2009 to restore confidence in the financial system after the worst financial crisis since the Great Depression brought down Bear Stearns Cos. and Lehman Brothers Holdings Inc. Regulators have since complemented the test with a capital planning requirement to improve boards’ management of risk and dividend and stock buyback decisions.
“The Federal Reserve has been focused — and will remain focused — on ensuring the nation’s largest finan- cial institutions have enough capital to weather severe, unexpected conditions and still continue lending to households and businesses,” Fed governor Daniel Tarullo said today in a statement released by the central bank.
The Fed’s rejection of Citigroup’s plan was a blow for then- Chief Executive Officer Vikram Pandit, who had primed shareholders for more rewards. Pandit, who cut the bank’s dividend during the financial crisis, filed a new plan in June without a request for an increased dividend or share buybacks, ending his push for a 2012 payout. The episode was among a series of setbacks that led the bank’s directors to oust Pandit in October, a person familiar with the matter said at the time.
Shannon Bell, a spokeswoman for the New Yorkbased lender, declined to comment on the Fed’s action today.
The 19 largest banks have boosted their tier one common equity to $803 billion in the second quarter of 2012 from $420 billion in the first quarter of 2009, the Fed said in a press release.