US banks' mission to boost investor payouts sparks concern

The $ 22 billion charge that Citigroup just took due to the overhaul of US tax laws would not - repeat not - spoil the bank's plans to hand back at least $60bn of capital to shareholders in coming years, the chief executive said this week as he presented results for the fourth quarter.

It was a theme running throughout the big US banks' earnings season. Despite a lot of one-off hits from tax and a pretty miserable trading environment on Wall Street, the banks all said they would look to step up payouts to shareholders through higher dividends and bigger buyback programmes (with the blessing of the regulator.)

Rather than building capital bases, in other words, they would allow them to fall. They would rely a little less on equity to fund their operations, and a little more on debt. "Banks have built up extraordinary capital cushions at this point, which they're beginning to allow to drop," says Nancy Bush, analyst at NAB Research, adding that US groups look a lot stronger than some European peers by this measure. "Leverage is probably being increased." To some, that is a worrying trend. Anat Admati, a professor at Stanford Graduate School of Business who has waged a long campaign for much higher capital levels at the big banks, notes that many of them were paying out billions of dollars in dividends right through the most acute phase of the last financial crisis.

She cites a 2010 paper by Eric Rosengren, president and chief executive of the Federal Reserve Bank of Boston, that noted that between the summer of 2007 and the end of 2008, the largest 19 US banks returned nearly $80bn to shareholders. The government then injected $160bn of bailout funds.

"In any other type of company, investors would send clear signals through debt covenants and high borrowing costs, to discourage such extreme levels of debt," says Prof Admati. "There's no market mechanism to stop it." The banks do not see it that way. For years after the crisis they hunkered down, they argue, raising huge amounts of equity, cutting their balance sheets, getting out of bad businesses, and keeping payout ratios low. Now that they have rebuilt their capital levels, they are able to withstand whatever kind of nightmarish stress-test scenarios the regulator can come up with.

According to the Federal Reserve, the big US banks subject to its latest batch of tests added more than $750bn in common equity capital between the first quarter of 2009 and the first quarter of 2017. Executives say they are left with much more capital than they need. Last July Citi set a marker for the sector, saying it wanted to bring down its common equity tier one ratio - its equity capital as a proportion of total risk-weighted assets - from 13 per cent to about 11.5 per cent. Mr Corbat reaffirmed the commitment this week, saying such a level was "prudent".

At JPMorgan Chase, Marianne Lake, its chief financial officer, made similar noises, saying she expected the bank's capital ratio - 12.1 per cent at the end of the year - would "move down slowly over time".

During an analyst call on Thursday, James Gorman, Morgan Stanley chief, said the bank was "more than sufficiently capitalised for our business mix, size and risk profile". In that respect, he said, he hoped regulators would approve bigger payouts after the next round of stress tests.

"Strong capital return is a critical element of our future success," he said. The big banks will look to bring their tier one ratios to somewhere between 11 and 12 per cent "and leave them there", says Chris Kotowski, banks analyst at Oppenheimer. "At that level, they can make a competitive return and they'll be extraordinarily well capitalised by any historical standards."

Just a few hours after Mr Gorman left the stage, however, American Express struck a different tone, announcing that it would suspend share buybacks after it was forced to take a $2.6bn charge connected to December's tax overhaul.

Last year the credit card company paid out to shareholders almost twice the amount of capital it generated. But after the tax charge its tier one capital ratio dropped from 12.3 per cent to 9 per cent - below the levels it had projected when agreeing a capital-return programme with the Fed. This kind of extraneous event is what critics have been warning about, says Neel Kashkari, president of the Minneapolis Fed, who last week presented a plan again for radically higher levels of capital to absorb shocks across the biggest banks.

He accepts that he is losing allies, as President Donald Trump appoints a more bank-friendly group of regulators to run the top agencies. He also notes big-bank executives have a strong incentive to keep capital levels low: the lower the equity base, the higher a bank's return on equity, which inflates ROE-linked pay packages. But he will keep banging the drum anyway. "I feel like our job is to identify risks, to speak out, and that's what we're doing," he says. "Hopefully legislators will listen."