Wall Street banks are about to have their grit tested
Crunch time is coming to Wall Street.
Last week, big banks got bad news when the Federal Reserve opted against hiking interest rates, and shifted its language to suggest it may hike interest rates only once in 2016.
It's something that has the potential to affect banks on Wall Street. Big banks are required to maintain cash balances totaling hundreds of billions of dollars with the Federal Reserve. The banks earn interest on those big capital reserves, but the Federal Open Market Committee has dragged its heels on higher rates, which means the banks make less on what they keep at the Fed.
The rise from zero percent interest rates is moving more tepidly than Wall Street had hoped for, and it's going to come home to roost on its top line. In past quarters, big banks have fought their way to profitability by cutting headcount, and they may have to do that again in order to meet goals.
"It's the last and only lever to pull," said Joo-Yung Lee, Fitch Ratings' head of North American financial institutions, "because rates have been so low for so long."
The pain may only be beginning.
The first of two back-to-back weeks in which the Federal Reserve will announce the results of its regulatory examinations for banks, better known as stress tests, is this week. After markets close Thursday, it's expected that the quantitative results of banks' tests, which in part focus on banks' capital cushions to absorb losses, will be revealed.
While U.S. banks, many of which have fared well in past exams, are expected to do well in the first week, it remains to be seen how many Wall Street firms will pass the second leg of tests.
Lee said she's not expecting any failures for U.S. banks on the first portion of stress tests, but that all bets are off next week, when regulators reveal qualitative results. Banks have had to prepare for various scenarios on which regulators will assess them, including the prospect of interest rates going negative.
And then, there's the Brexit. Last week, markets became jittery on narrowing poll numbers that suggested the United Kingdom might actually vote to quit the European Union. It's something that would have a big impact on banks based in the EU, as well as U.S. banks.
But fears that the U.K. will separate from the European Union subsided in Monday morning trading. U.S. banks' stocks got a boost, and EU bank shares outpaced market benchmark gains. Some Wall Street banks have cautioned that they would have to lay off staff in the event of a Brexit; others have gone as far as to highlight Brexit concerns to regulators in their stress tests, the Financial Times reported.
"I do think it is overplayed," said Erik Oja, U.S. banks analyst with S&P Global Market Intelligence. "The short-term impact would be worse than the long-term impact."