Banks May Need 3% of TCE to Meet Stress Test: Sources
Federal regulators, who plan to start giving banks the results of the so-called "stress test" on Friday, want the banks to have tangible common equity equal to at least 3 percent of assets under the worst-case scenario of the stress test, sources told CNBC.
The 3 percent target is still being negotiated and is not final, said one of the sources, a financial industry executive who has spoken with several bank CEOs and regulators.
The stress tests are designed to see how the nation's 19 largest banks would fare should the U.S. recession prove unexpectedly severe. Though the results will be made available to banks on Friday, they will be not made public on May 4, a Federal Reserve official has said.
The Fed official said regulators will try to prove the rigor of the tests by releasing a document on Friday that explains the underlying assumptions. The document will outline the methodologies employed and serve as a guide on how to interpret the results.
Tangible common equity is a measure of capital strength that has been commanding more investor attention. It looks at how much common equity is supporting a company, and ignores intangible assets such as goodwill, on the theory that in bad times, intangible assets are less likely to have value.
There has been little consensus on what a bank's appropriate TCE ratio should be. Some argue it should be above 5 percent or 7 percent. Many major banks have had TCE ratios below 3 percent.
The TCE requirement will be done in a range of around 3% because it will depend upon the bank's risk-weighted assets. Banks with fewer risk-weighted assets will be allowed to be lower. Those with more risk weighted assets will have to be higher.
If the banks don't meet the requirement, they will have have roughly six months to raise that ratio.
Earlier, the Wall Street Journal reported that some estimates of likely losses that were used in the stress tests were tougher than expected, the newspaper said.
"Under a more adverse scenario, which assumes a 10.3 percent unemployment rate at the end of 2010, banks would have to calculate two-year losses of up to 8.5 percent on their first-lien mortgage portfolios, 11 percent on home-equity lines of credit, 8 percent on commercial and industrial loans, 12 percent on commercial real estate loans, and 20 percent on credit card portfolios," the paper said, citing a confidential document from the Federal Reserve.
On Tuesday, Treasury Secretary Timothy Geithner said most U.S. banks have enough capital to keep lending, but a pile of bad debts is fostering doubts about their health and slowing a recovery.
—Reuters contributed to this report.