Followed religiously, every twelve months the U.S. Federal Reserve has its banks run through a complete health check. This year, the results are set to drop on Thursday which is right ahead of us. This idea first surfaced in the time between 2007-2008 when a major financial crisis couldn’t be averted due to the poor condition of the banks’ health.
This tradition of ‘stress tests’ have been a common occurrence since then, when the Fed patiently tested sheets that had detailed review of balances belonging to the banks, against an entirely hypothetical economic disruption. The circumstances pertaining to whichever calculated scenarios are truly fluid and changed every year.
Upon results being rolled out, the bank would use it to determine how much capital they can reimburse investors through buybacks and other mutually beneficial exchanges like dividends. It is also known to help in monitoring the capital, to ensure they do not fall into a steep place. When it is clear that a bank performed well, it will amount to the “stress capital buffer” they ought to receive as compensation to duke it out with any such economic disruptions the future may contain.
This will also act as provisions of capital the Fed may use to support daily businesses as a bare minimum. If the test ruled out the losses as higher than average, the buffer the bank will get will be directly proportional.
Thursday is allegedly the day the Fed rained upon the results. The result would equate to every bank’s individual ratio in capital and collective losses accordingly with a more in-depth review of how their credit cards, mortgages, and clientele traffic coped.
Each bank’s scheme on dividends and buybacks is not to be unveiled before Monday, June 27th.
Markets monitor some big industry player lenders with a hawk-eyed vision, namely, Bank of America Corp. (BAC.N), JPMorgan Chase & Co (JPM.N), Wells Fargo & Co (WFC.N), Morgan Stanley (MS.N), Goldman Sachs Ground Inc (GS.N) and Citigroup Inc (C.N).
The Fed never has the same environment to go through the test annually. In 2020, when the pandemic struck no amount of the Fed’s measures were enough to counter the economic failure that year. However, they did manage to hold on well to get this far, though, this year’s test was set out before the Ukraine war and the ongoing looming inflation concerns.
Regardless, this year’s test wouldn’t be any easier than it was previously since the foundation of the U.S. economy is sturdy. This would infer that there might be a drastic level of unemployment and hence, even marginal economic alterations may be sniffed out exceedingly well.
To elaborate, last year forecasted a 4% hike in unemployment due to a supposedly detrimental case in point. But this year, that hike was noted to be 5.75%, courtesy of the recovering economy and opportunities for employment in the recent past.
Conclusively, this would prompt the banks to stock up in capital provisions more so than last year, just in case there is more regression in the economy in the remainder of this year and henceforth.
There is also a prediction of “heightened stress” in commercial real estate. Which suffered a severe decline during the COVID-19 period where workers were dismissed, and debt markets wavered in their pledge. The International Monetary Fund (IMF) and other watchdogs who monitored bank state affairs globally cautioned investors and the industry of volatility in the corporate debt market as interest rates surge due to an act of countermeasure against inflation.
There were 23 lenders last year who were subjected to the test, and this year there are 34 U.S. banks, meeting the criterion with $100 billion in assets. This is because there is a new standard that surfaced 2 years ago, entailing that banks with less than $250 billion in assets may take the test every alternative year.
Fitting this bill, Fifth Third Bancorp (FITB.O) and Ally Financial Inc (ALLY.N), and other influential regional banks would take their turn next year.