WASHINGTON, D.C.: Thirty-three large US and foreign banks passed the first stage of annual stress tests to measure their financial mettle in crises, the Federal Reserve reported on Thursday (Friday in Manila).
While the banks registered “substantial losses” in hypothetical scenarios of both severe and extremely severe economic downturns, the Fed said that in the aggregate the 33 had stronger balance sheets and better credit quality than a year ago.
“The nation’s largest bank holding companies continue to build their capital levels and improve their credit quality, strengthening their ability to lend to households and businesses during a severe recession,” the Fed said.
The most extreme test measured how hard a severe global recession, with a long period of financial stress, a 5 percentage point increase in US unemployment, and negative yields on short-term US securities that the banks often rely on, would hit the banks’ loan portfolios and other sources of income.
It also measured their exposure to other banks equally hit by an economic crash.
Each of the 33, including top US banks like Goldman Sachs and Bank of America, and foreign banks with major US presences like HSBC, Deutsche Bank and Japan’s MUFG, were able to meet minimum capital levels even after seeing earnings wiped out and their loan books savaged in the worst case.
Noting the improvement from a year ago, when all the banks tested also passed, the Fed said: “They have increased the dollar amount of their capital, improved the credit quality of some of their material loan portfolios, and reduced illiquid securitization exposures on their trading book.”
Those that came out strongest were led by the US arm of Deutsche Bank, American Express, Santander Holdings and Discover Financial Services.
Those left theoretically weakest after the tests included Huntington Bancshares, BMO Financial, Ally Financial and Zions Bancorp.
The tests, instituted in the wake of the devastating financial crisis of 2008, were based on the banks’ actual fourth-quarter 2015 capital and loan strength.
But they did not take into account any real plans the banks have made to distribute profits
from last year to shareholders through dividends and share buybacks.
A second stage of the tests next week will assess the banks’ strengths including those planned payouts, and the Fed will then decide whether it will permit the banks to go ahead with them.
A year ago the capital plans of Deutsche Bank and Santander were rejected, while that of Bank of America earned a conditional pass. Bank of America was given several months to address the problems the Fed saw.
The week between the two stages allows the banks time to amend their capital plans if they see that the results of the first stage could lead to their current plans being rejected in the second stage.