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Fed loosens restrictions on bank share buybacks after second stress test

·Reporter
·3 min read
In this article:
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The Federal Reserve on Friday loosened its restrictions on share buybacks at the nation’s largest banks, concluding after a second round of stress tests that the institutions had “strong capital levels.”

The central bank said it would allow banks to begin buying back shares again — up to a limit — lifting its ban on share repurchases imposed on the industry for the second half of this year. For the first quarter of 2021, banks will be able to pay dividends and make share repurchases that do not total more than an average of the bank’s net income over the prior year.

The move was an endorsement of how well the sector has fared during the COVID-19 pandemic, which has ricocheted across the global economy. However, the Fed will continue to bar banks from hiking their dividends, a limitation that policymakers had imposed following its first round of stress tests announced in June.

Senior Fed officials say the change, effective for the first quarter of 2021, would mean that less profitable banks would face more restrictions on the amount of capital they could pay out.

Conversely, more profitable banks would have greater flexibility on their buybacks and dividends.

“The banking system has been a source of strength during the past year, and today’s stress test results confirm that large banks could continue to lend to households and businesses even during a sharply adverse future turn in the economy,” said Fed Vice Chairman of Supervision Randal Quarles.

‘Exceptionally challenging winter’

In its second round of tests, the Fed subjected the 33 largest banks to two hypothetical economic scenarios: one where the economy suffers a deeper hit but recovers quickly; and another where the economy takes a shallower hit, but endures a slower recovery.

The Fed determined that in both scenarios, every firm would remain above regulatory minimums for risk-based capital ratios set by the central bank.

Some banks — such as HSBC North America (HSBC), DB USA Corporation (DB) and PNC Financial Services Group (PNC) — ended with post-stress test total capital levels that were right up against their absolute regulatory minimums in both scenarios.

The central bank, which usually only does one stress test a year, added a second test for 2020 due to the economic uncertainty sparked by the COVID-19 pandemic.

But the Fed also clarified that it would not recalibrate the stress capital buffers (used to set regulatory minimums) off of the second round of stress tests. That will remain at levels established by the first round of stress tests.

Fed Governor Lael Brainard was the lone dissent against the decision to modify the restrictions on bank capital distributions, preferring more “modest payouts” ahead of an “exceptionally challenging winter.”

“Today’s action nearly doubles the amount of capital permitted to be paid out relative to last quarter,” she said in a statement Friday.

Brainard had similarly dissented against the Fed’s decisions to cap dividends rather than banning them entirely, in the third and fourth quarters of this year.

The vote to keep the stress capital buffers unchanged was unanimous.

Brian Cheung is a reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.

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