A guide to bank 'stress test' results
May 7th 2009 7:30AM
Updated Dec 4th 2009 12:00PM
Most of the data on bank "stress tests" has already been leaked to the press, which could prompt an investigation into why such sensitive information about public companies was disclosed early.
But whether the figures were in the press early or released later today, when they are expected to be officially announced, the net result is the same: The government has found the large banks are not insolvent and whatever balance sheet problems they have can be solved quickly.
The 19 banks that went though the process can be broken into three groups. In the first group are the banks that will not have to raise any money. The government has blessed them as the strongest big financial institutions in the country. JPMorgan (JPM) and Goldman Sachs (GS) are likely to be on this list.
Not only will they avoid having to raise money, but their balance sheets may be strong enough to allow them to pay back the funds they received from the TARP program. If they are permitted to do this, they will be out from under onerous regulations on executive compensation. Their shareholders will also not face dilution due to a need to raise new capital by selling common shares.
The next group of banks, which probably includes Citigroup (C), Bank of America (BAC), and Wells Fargo (WFC), may be asked to bring in as much as $59 billion between them. They could go to the private markets to raise this money. Though in the current credit environment, that might be difficult. If they can raise money without government aid, it would probably be by selling common shares at a discount, which would hit their share prices and dilute current owners. The advantage, however, is that the federal government would not get any additional ownership in these banks, ownership that could increase Treasury and Fed control of their business activities.
But the banks in this second group may have to turn to the government if they cannot find private capital and that will mean more government ownership -- perhaps a lot more ownership. The Paulson TARP program put as much as $25 billion into the largest banks. This money was exchanged for preferred shares. If these preferred units are swapped for common stock, under accounting rules the banks gain the capital that will probably allow them to meet the standards set up by the testing process.
The third group of banks is probably made up of the most troubled regional banks. They have significant real estate exposure. Regions Financial (RF) may be in this group. These institutions have small market caps. In the case of Regions, that amount is only $4 billion. If it needs to raise money and cannot get it in the capital markets, a conversion of government preferred shares could make taxpayers the largest or perhaps majority shareholders, in effect nationalizing them.
Based on the leaked information and how the banks stocks have traded over the last week, Wall Street believes that most banks are in relatively good shape. What should concern investors is that, if the economy does not get better soon, then the "stress tests" were not rigorous enough and the banks will have to go through another round of recapitalization later this year or early in 2010.
Douglas A. McIntyre is an editor at 24/7 Wall St.