There is more uncertainty for investors in some of the largest US banks, following the Fed's decision to limit their dividend payments and share buyback plans.
The Federal Reserve told 33 of the largest U.S. and global financial institutions on Friday that they should not increase their dividends or resume redemption until at least September amid the global corona virus pandemic that is shaking the U.S. economy in a deep recession. and increased risks to lenders.
The decision came after the annual central bank stress test, which examines banks' ability to survive in recession. Through these tests, the Fed can make changes to an institution's capital return plans, such as dividends and share buybacks, to avoid a situation such as those in which these lenders found themselves after the 2008 financial crisis.
The Fed's recent test includes a new dividend formula that dictates that a lender's payout should not exceed the average net income of the previous four quarters.
The Fed & # 39; is taking action to more intensively assess the state of banks and require the largest banks to take prudent measures in the coming months to preserve capital & # 39; said Randal Quarles, vice Fed Chairman, in the statement.
"The banking system remains well capitalized under even the most severe of these downward scenarios."
During the months-long blockade of the corona virus, the major US banks have not changed their payment policies. During the first three months of 2020, the four largest U.S. commercial banks – Bank of America (NYSE :), Citigroup (NYSE :), JPMorgan Chase (NYSE 🙂 and Wells Fargo (NYSE 🙂 – paid for them all, with JPMorgan and Wells Fargo pays out more than their net income.
Uncertainty about these lenders' dividend plans means that investors are reluctant to own shares in these companies, especially when their earnings come under pressure during the ongoing recession.
A period of underperformance
It fell 6.4% on Friday, to the lowest in a month.
KBW Bank Index Weekly 2017-2020
The index fell by 36% this year and performed significantly worse than during the period when the health crisis and lower interest rates were damaging bank profits.
We see more pressure on bank stocks in the future, especially when the US may experience a second wave of coronavirus and delay the reopening of the economy. The new dividend cap and demand for further rounds of stress testing give the Fed the flexibility to change its capital return policy as the economy deteriorates.
That said, not all benches are in the same boat. Wells Fargo and Capital One Financial (NYSE :), for example, will drop their dividends the fastest, while Citigroup and Morgan Stanley (NYSE 🙂 could continue their current payouts.
Wells Fargo should decrease its Q2 dividend from $ 0.51 to $ 0.36, and Capital One should decrease its payout to zero, from its current $ 0.40, according to a Morgan research note. Stanely.
The Fed has "warned the market that dividends could be suspended or curtailed from the fourth quarter if bank losses increase and the economy deteriorates," Cowen analyst Jaret Seiberg said in a note.
That is likely to "disappoint all sides" as "critics of major banks will be upset that banks are able to pay all ordinary dividends even though dividends represent less than 30% of the capital returned to Investors, and the banks are likely to be upset that the sensitivity analysis for COVID-19 did not take into account the federal stimulus, which has been extensive, & # 39; her note.
Bottom Line
Stable and growing dividends were the main attraction for many investors who bought bank shares in this very uncertain economic environment. The recent move by the Fed has created much uncertainty in capital return plans for the major banks, at least as long as the pandemic continues to depress the economy.
