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Fed Restricts Big Banks’ Dividends, Suspends Q4 Share Buybacks

On Wednesday, the Federal Reserve announced the extension of restrictions on dividends and share buybacks by big U.S. banks, in a bid to conserve capital amid the coronavirus crisis-induced downturn. The central bank restricted share buybacks for another three months – the period till the end of the fourth quarter.

Moreover, dividends are being capped and are based on the formula related to bank’s recent income. Under the restrictions, banks are not allowed to pay dividends more than their average quarterly profit from the four most recent quarters.

Notably, restrictions have been imposed on 33 banks with more than $100 billion in assets. The Fed’s move intends to “ensure that large banks maintain a high level of capital resilience,” the central bank said in a statement. “The capital positions of large banks have remained strong during the third quarter while such restrictions were in place,” noted the Federal Reserve.

Previously, at the end of this June, 33 of the largest U.S. banks, including JPMorgan JPM, Citigroup C, Wells Fargo WFC and Bank of America BAC, were being restricted for capital deployment.

In June, the Federal Reserve released the results of the Dodd-Frank Act supervisory stress test 2020 (DFAST 2020) conducted on 33 firms, which, to a great extent, reflected the stability of the banking system. However, on uncertainty signalled by the industry and the broader economy, the Fed announced big banks to undertake a second round of stress tests later this year.

The second round will be based on two coronavirus-related recession scenarios. The results of the second round of stress tests, which are conducted to ensure banks’ ability to lend even in a crisis, will be announced this December.

The continued impact of the coronavirus pandemic on the banks’ lending businesses has taken a toll on the banking shares. Moreover, short-term interest rates near zero level and increase in provisions have eroded the profits of banks despite trading gains. Therefore, plunge in prices on investors’ concerns have also prompted the central bank to further restrict capital distributions in order to ensure liquidity of banks.

Bottom Line

To ensure the resilience of large banks, the Fed has asked banks to maintain sufficient liquidity by further suspending share repurchases and capping dividends. With banks taking measures to strengthen their financials and battle challenges, the second round of stress test will further help regulators check their progress in the same and avert another crisis. Further, this will boost the lending capacity of banks, thereby bolstering their financial positions.

Though an economic uncertainty lingers due to the coronavirus outbreak; at present, banks are actively responding to every legal and regulatory pressure. This has, in fact, positioned banks well to encounter impending challenges.

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