Fed challenges three banks in the latest ‘stress test’

Morgan Stanley told to tweak ‘weakness’ in planning process

- Matt Krantz @mattkrantz

Morgan Stanley told to work on “weakness” in its planning.

The Federal Reserve on Wednesday challenged three banks’ capital plans in round two of its annual stress test.

Thirty other banks tested got the green light, giving investors and consumers greater faith in the strength of the financial sys- tem and setting off a round of dividend and stock buyback announceme­nts.

All 33 banks passed the first round of tests announced last week, but the Fed took issue with the capital plans of two banks, Deutsche Bank Trust and Santander Holdings USA, in Round 2. Both have been working to shore up their reserves and build systems to manage their risk, but have more to do in the eyes of the Fed. The Fed’s stress tests measure banks’ preparedne­ss for a major financial shocks.

Morgan Stanley was the only major U.S. bank to get negatively singled out by the Fed. While the Fed didn’t object to Morgan Stanley’s capital plan, it is forcing the bank to resubmit its plans by the fourth quarter of this year “to address weakness in its capital planning processes,” the Fed’s release stated. Morgan Stanley passed the first part of the stress test, which looked at the company’s reserves on an objective, not subjective, basis. Since it passed the first part of the stress test, Morgan Stanley announced plans late Wednesday to boost its quarterly dividend by 33% to 20 cents a share. The firm also authorized a $3.5 billion stock buyback program. Wednesday’s stress

test is the second part of an annual review of banks required as part of the DoddFrank reforms following the financial crisis of 2008 and 2009. The first test, reported last Thursday, is mostly a mathematic­al exercise that quantifies whether the banks have the adequate resources to withstand a serious economic shock. Wednesday’s stress test has more qualitativ­e variables that go in the formula to determine who passes and who doesn’t. In this test, the Fed is looking for banks to be strong in the area of capital planning, risk

management, oversight and proper checks and balances.

The fact that all 33 banks passed the first test shows just how much stronger the financial sector is now, says Ernie Patrikis, partner of law firm White & Case.

“In terms of safety and soundness, these banks are safe and sound,” he says.

The moves by the Fed open the door for many large banks to boost their plans to return cash to investors in the form of dividends and stock buybacks.

The average dividend yield of six of the largest U.S. banks is 2.1%, which is only slightly higher than the roughly 2% yield on the entire Standard & Poor’s 500 index.

That’s already changing quickly as some of the banks that got a clean bill of health from the Fed are cleared to return money to investors as dividend hikes and buybacks.

Many banks didn’t waste any time in boosting their returns to investors.

Bank of America, for instance, late Wednesday said it was boosting its quarterly dividend by 50% to 7.5 cents a share and committing $5 billion to buying back its own stock.

Prior to this move, Bank of America was yielding just 1.6%. Shares of Bank of America are down 22% this year.

Citigroup was another bank investors were eager to see boost returns, and they got what they expected.

The bank announced late Wednesday it was increasing its dividend to 16 cents a share, more than triple the 5 cents a share it paid in the first quarter. Prior to the dividend increase, Citigroup was yielding just 0.5%, the lowest of the major U.S. banks.

 ?? AFP/GETTY IMAGES ?? The stress tests are required as part of the Dodd-Frank financial reforms.
AFP/GETTY IMAGES The stress tests are required as part of the Dodd-Frank financial reforms.

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