(Bloomberg) — Citigroup Inc.’s plans to return capital to shareholders got the cleanest approval from the Federal Reserve among top Wall Street banks, one year after the firm failed the regulator’s annual stress tests.
Bank of America Corp. got a conditional pass requiring it to shore up internal processes and resubmit its plan for managing capital, while Goldman Sachs Group Inc., JPMorgan Chase & Co. and Morgan Stanley cleared only after revising proposals, the Fed said Wednesday in a statement.
U.S. units of Deutsche Bank AG and Banco Santander SA failed because of qualitative concerns about their processes. The Fed didn’t place any conditions in passing Citigroup or 24 other firms, including Wells Fargo & Co.
Michael Corbat, Citigroup’s chief executive officer, had staked his job on passing this year’s test after the Fed found the bank’s processes inadequate last year. He spent more than $180 million to improve the bank’s systems and asked Eugene McQuade, a veteran executive with close regulatory ties, to delay his retirement to oversee this year’s submission.
The tests are a cornerstone of the Fed’s strategy to prevent a repeat of the 2008 financial crisis and another government bailout of the largest U.S. banks. The results released Wednesday are the annual exam’s second and final round, determining whether lenders can withstand losses and still pay dividends, buy back stock or make acquisitions.
Analysts estimated before Wednesday’s results that publicly traded U.S. banks subject to the review were strong enough to boost quarterly shareholder payouts 53 percent on average, disbursing $109 billion over the next 15 months. The Fed didn’t specify how New York-based Goldman Sachs, JPMorgan and Morgan Stanley altered their proposals.
Citigroup’s Payout
Citigroup, which pays a token 1-cent dividend after last year’s failure, will lead increases with a 60-fold jump in quarterly disbursements through dividends and stock buybacks, according to seven analysts’ estimates compiled by Bloomberg. While payouts from Wells Fargo and JPMorgan will climb less than average, the rewards will remain the largest among the U.S. banks tested, the estimates show.
Banks can disclose details of their capital plans as early as Wednesday. If all of the banks that passed return the capital they asked for, they will pay out almost 60 percent of their projected income over five quarters, a senior Fed official said.
Failing the test can mean banks have to forgo increases to capital payouts, forcing executives to shore up balance sheets or internal systems while facing shareholders eager for more cash. The U.S. units of Santander, Royal Bank of Scotland Group Plc, HSBC Holdings Plc failed last year because of the Fed’s so-called qualitative look at risk management, corporate governance and internal controls.
BofA Faulted
Citigroup’s Tier 1 common ratio fell to a minimum of 7.1 percent under the worst-case economic scenario in the test after taking into account the firm’s planned capital actions. With the pass, Corbat, 54, ends a year of turmoil that included the Fed’s rejection of the New York-based bank’s plan last March because of what regulators described as deficiencies in the firm’s processes for projecting revenue and losses across its global operations.
Bank of America’s revenue and loss models and parts of its internal controls were lacking and need to be resubmitted by Sept. 30, the Fed said Wednesday. If the lender hasn’t fixed its capital planning by then, the Fed can restrict payouts.
Bank of America, led by CEO Brian T. Moynihan, disclosed Feb. 25 that regulators had demanded changes to models, including those for wholesale credit, which would probably decrease the Charlotte, North Carolina-based company’s capital ratios. The Fed didn’t say whether the requested changes in models were related to its critique of Bank of America’s stress-test process.
Deutsche Bank
Deutsche Bank Trust Corp. and Santander Holdings USA will be restricted from paying dividends to their foreign parent companies or to any other shareholders. That may not have a significant impact, because a Fed rule approved last year will require foreign banks to inject more capital into their U.S. units by July 2016.
That rule forces the largest foreign firms to consolidate U.S. operations into one subsidiary and abide by the same capital and liquidity minimums as domestic peers. It came after lenders including Deutsche Bank and Barclays Plc dropped the bank holding company status of their primary U.S. units.
Deutsche Bank Trust represents about 15 percent of the parent company’s assets in the U.S., a Fed official said last week. It’s a holding company for several units of the German lender, including a U.S.-based trust business that accepts deposits and groups that provide back-office services to the bank, and doesn’t include the firm’s broker-dealer unit, according to a regulatory filing last year.
Severe Scenario
Past Fed tests let banks make payouts in the four quarters that followed. This time, the test will determine payouts for five quarters.
Last week, the Fed said all 31 banks have sufficient capital to absorb losses during a sharp and prolonged economic downturn. That review didn’t factor in the companies’ capital plans. It was the first time since the central bank started stress tests in 2009 that no firm fell below any of the main capital thresholds.
Goldman Sachs got closest among the top six U.S. banks to breaching regulatory thresholds in the first phrase of the test, surpassing the 8 percent minimum for total risk-based capital by 0.1 percentage point. Morgan Stanley’s ratio in three capital measures fell to within 1 percentage point of the required minimum. Firms can modify their capital plans in the week before the second round results are released.
Goldman Sachs, which paid out the highest percentage of earnings among Wall Street firms in 2014, had to resubmit its capital plan to win Fed approval for a second straight year. The firm has pushed to give back capital to shareholders as it tries to boost return on equity, which has been 11 percent in each of the past three years.
Regulators don’t hold it against firms if their original capital plan is so aggressive that they are forced to resubmit, or if they do it in subsequent years, because it’s now a part of the process, a senior Fed official said.
The Fed subjects banks to two dire economic scenarios, with the most severe downturn marked by a 60 percent plunge in stock indexes, a 25 percent decline in housing prices and an unemployment rate that tops out at 10 percent.
Last week’s results showed that loan-loss estimates for the 31 banks totaled $490 billion under that worst-case scenario, down from $501 billion for the 30 banks tested last year. The losses include a $102.7 billion hit to trading, led by JPMorgan’s $23.6 billion. The heaviest damage was in consumer lending, with 39 percent of projected losses from such activity as mortgages and credit cards.
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