As they await this week’s stress test results, US banks face a dilemma their European counterparts can only dream of: what to do with a pile of excess cash?
The answer is expected to become clearer on Wednesday after US markets close, when the Federal Reserve weighs in on plans by large US banks to pay out dividends and buy back stock in the final part of the two-phase stress tests.
Large US banks are widely expected to get the green light on their plans after the Fed last week said all 34 banks it examined could withstand a severe recession.
If the Fed approves the banks’ plans, payouts are expected to be especially rich at the largest American institutions, including Citigroup and Morgan Stanley, which analysts estimate could return all of their profits to shareholders.
“Banks will make significant increases in their payouts this year,” predicted Richard Bove, an analyst at Rafferty Capital.
But he said the stream of dividends and buybacks have a downside: If companies are returning money to shareholders, it means they are not investing in their businesses.
“These guys don’t know how to use it,” he said. “They have excess funds sitting in the banks that are doing nothing.”
The Fed released the first half of the bank stress tests last week, which revealed American banks hold $357 billion in excess capital, said Morgan Stanley analyst Betsy Grasek.
She predicted bank payouts would be the loftiest since the 2008 financial crisis.
According to Howard Silverblatt, senior index analyst at S&P Dow Jones Indices, the financial sector doled out $29.5 billion to shareholders in the first quarter, more than the $27.5 billion paid by technology companies.
Gregori Volokhine, president of Meeschaert Financial Services said the financial condition of American banks has become “very clean” in the wake of tougher regulations imposed after the crisis.
Yet some question the message behind the bank’s paying out large dividends rather than putting the funds to work in the core business at a time when new fintech technologies are becoming more viable.
“This should be a red flag,” said Neil Barofsky, partner at Jenner & Block, a former inspector general of the $700 billion Troubled Asset Relief Program, which was enacted at the height of the 2008 crisis.
The payouts are generally welcomed by shareholders, who analysts say are being shortsighted.
“The message seems to be ‘You the banks are in good shape, now give us your money,’ instead of, ‘Now that the banks are doing better, let’s lend more to stimulate the economy,'” Volokhine said.
Analyst Bove said it would be better to see the banks put money into fintech to enable them to compete with companies like PayPal, Square or Apple Pay. Another option could be acquisitions, although the regulatory appetite for US deals is unclear.
“But you don’t throw away money and that’s what they are about to do,” he said.
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