U.S. banks play cat-and-mouse game with Fed on capital returns

NEW YORK/WASHINGTON (Reuters) - An annual stress test of banks introduced by U.S. regulators after the 2007-09 financial crisis to prevent taxpayer bailouts has become a fight over how quickly lenders can return capital to shareholders.

Helped by a buoyant U.S. economy, tax cuts and record profits, the country’s biggest banks are ramping up payouts to shareholders through dividends and share buybacks. But their plans to return capital are pushing the boundaries of what regulators will tolerate, analysts and regulatory sources say.

The Federal Reserve on Thursday approved the capital plans of 18 banks in this year’s test, although it placed conditions on the U.S. operations of Credit Suisse Group AG after identifying weaknesses in its capital planning.

JPMorgan Chase & Co, one of the best capitalized U.S. banks, had to resubmit its proposal after the Fed assessed its initial plan would result in it falling below the minimum capital it is required to hold to cope with a downturn.

The bank eventually won the regulator’s approval for a capital plan that will increase its quarterly dividend to 90 cents per share from 80 cents, starting in the third quarter, and buy back up to $29.4 billion of shares over the next year.

The Fed began publishing the results of the capital planning check in 2012. It is the second part of the Fed’s annual test of banks, assessing what level of cash banks can return to shareholders through dividends and share buybacks.

Federal Reserve Chairman Jerome Powell has emphasized that banks are in a much stronger position now than they were before the crisis and has said he believes the amount of capital reserves in the banking system is appropriate.

With the Fed no longer pushing lenders to increase capital reserves each year, and banks growing comfortable with the stress testing process, they may be getting more aggressive with their capital plans, a senior Fed official said Thursday.

As they push to maximize shareholder payouts, banks run a greater risk of seeing their capital levels dip below regulatory minimums when run through a hypothetical economic downturn. That’s what happened to JPMorgan this time. After the bank resubmitted its plan with a lower payout rate, it was approved.

The Fed permits banks to adjust their capital plans once after submitting them to stress testing, but only if their initial plans prove to be too aggressive, giving the firms some incentive to push the limit.