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Banks have cleared the Federal Reserve's latest test of their ability to withstand another economic doomsday, but the real test for investors comes next week, when the banks reveal how much they are able to pay out in dividends and share buybacks.
Test results made public on Thursday by the Fed show that large and regional U.S. banks have enough capital to withstand the crisis scenarios used in the test. This year 38 banks went through the ringer, though three banks ended up being exempted because of a new law that set a minimum size of $100 billion of assets for those required to participate.
It is the fourth straight year all the banks met the Fed's standards. That helped bolster arguments from Republican lawmakers that regulations on the industry could be loosened without adverse effects.
The test is not "pass/fail," but coming through the worst-case scenario is seen as a positive. "Despite a tough scenario and other factors that affected this year's test, the capital levels of the firms after the hypothetical severe global recession are higher than the actual capital levels of large banks in the years leading up to the most recent recession," said Fed Vice Chairman Randal K. Quarles in a statement.
Analysts expected banks clear the hurdle by wide margins, though they were closely watching results from the six foreign banks new to the annual ritual this year. In addition to the biggest U.S. banks like Bank of America, Citigroup and J. P. Morgan Chase and others, this year's test included UBS, RBC, Deutsche Bank, Credit Suisse, BNP Paribas and Barclays.
On a background call with reporters Thursday, senior Fed officials said the test had been run on three banks that ended up being exempted, and it was up to those firms to decide whether to release their results. They are CIT Group, Comerica and Zions Bancorp.
The largest U.S. banks showed they had adequate capital to withstand the harshest scenario, clearing above the minimum requirement. But Goldman Sachs disputed the Fed's numbers.
"Our models and the Federal Reserve's models diverge, which we expect to discuss with the Federal Reserve," the bank said in a statement on Thursday. The "ratios that are published today may not represent our firm's actual capital return capacity, which may be higher than this year's test would otherwise indicate."
In the Thursday afternoon briefing for reporters, the senior Fed officials said this week's test numbers aren't necessarily reflective of what next week's results will look like, when banks are given approval on their capital plans or told to make adjustments.
The Fed does this exercise annually to make sure banks and other financial companies have enough capital to survive after the 2008 financial crisis revealed weaknesses in the system.
This year's hypothetical scenarios were harsher than past tests, analysts noted. The test imagined unemployment, currently near historic lows, at 10 percent and an environment where there was extreme stress in corporate lending and real estate lending. Credit cards and commercial loans showed the most stress.
Under this severe scenario, the 35 banks would lose $578 billion over the nine quarters tested, the Fed said. Since 2009, the banks in the group have added $800 billion in common equity capital to their balance sheets to shore up for another downturn.