Shareholder Payouts, Trading Performance Weighing On U.S. Banks’ Capital Ratios

-5.06%
Downside
37.84
Market
35.93
Trefis
BAC: Bank of America logo
BAC
Bank of America

A sharp reduction in volatility in the U.S. capital markets hurt trading revenues across the industry over the last two quarters – resulting in a notable decline in earnings for the banks that rely more on securities trading to make money. This, coupled with the generous capital return plans announced by the banks after the Fed’s most recent stress test results, negatively impacted these banks’ retained earnings – leading to a notable decline in the common equity tier 1 (CET1) figure for most U.S. banking giants since Q1 2017.

That said, all of the large U.S. banks have comfortable capital buffers above the fully phased-in levels they need to achieve by 2019. At the end of Q3 2017, Morgan Stanley retained its position as the best capitalized major bank in the world with a common equity tier 1 (CET1) figure of 16.3% – a good 630 basis points (6.3% points) above its 2019 target. Bank of America has also done well to boost its CET1 figure by of 100 basis points (1% point) over the last twelve months – helping its CET1 buffer improve to 190 basis points (1.9% point).

We maintain a $25 price estimate for Bank of America’s shares, which is about 10% below the current market price.

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The figures at the end of Q3 2017 and the 2019 fully phased-in target compiled here are as reported by each of these banks in their latest 10-Q SEC filings. It should be noted that the transitional CET1 figures for these banks are several percentage points higher than the fully phased-in figures shown in the table below, and all U.S. banking giants comfortably met their current capital ratio requirements. However, there has been an overall decline in the CET1 ratio for most of these banks in the last two quarters, as detailed in the table below. Goldman stands out here as the only bank to report a year-on-year decline in CET1 ratio figure – something that can be attributed to its dismal trading performance in each of the three quarters of 2017, even as it spent billions in repurchasing shares over this period.

The CET1 ratio is a key quantitative measure used by the Fed to approve or reject a bank’s capital plans each year as a part of its Comprehensive Capital Analysis and Review (CCAR) – commonly known as the bank stress tests. A larger difference between the current and target CET1 ratios gives a bank more leeway in handing out cash to investors in the form of share repurchases and dividend hikes – something that was seen earlier this year after the Fed’s stress tests for the year.

We represent dividend payouts and share repurchases in our analysis of Bank of America in the form of an adjusted dividend payout rate, as shown in the chart below. You can understand how an increase in Bank of America’s adjusted payout ratio affects its share value by making changes here.

See full Trefis analysis for Wells Fargo | Goldman SachsJPMorganMorgan StanleyBank of America | Citigroup

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