International Forecaster Weekly

STOCK BUYBACKS POISED TO BREAK THE DAM - As Too Big to Fail Banks Pass Fed’s Annual Stress Tests

Stock buybacks and dividend payments are on the verge of gushing out of Wall Street banks’ faucets and breaking through the proverbial dam. 

Guest Writer | June 25, 2021

By Dave Allen for Discount Gold & Silver

Watch out below! 

Stock buybacks and dividend payments are on the verge of gushing out of Wall Street banks’ faucets and breaking through the proverbial dam. 

Why? First, let’s start with this premise: In today’s ultra-competitive global markets, the more that companies — especially big, public ones — invest broadly and deeply in their employees and their productive capabilities, the more likely they’ll be successful.

Turns out, however, the vast majority of the Biggies prefer to ride the coattails of those who apparently have much more wherewithal or commitment to succeed the old-fashioned way, i.e., via research and development.

To wit: in 2018, only 43% of companies in the S&P 500 Index incurred any R&D expenses — with just 38 companies (a mere 7.6%) accounting for 75% of the R&D spending of all500 companies.

So, where’s all that corporate cash been going?

In the ten years between 2009 and 2018, S&P 500 companies spent a collective $4.3 trillion on buybacks — 52% of their net income during that period.

On top of that, the companies spent another $3.3 trillion on shareholder dividends — 39% of net income.

Buybacks, in particular, are bad for employees, income equality and the economy in general.

They're also highly manipulative and make it appear the stock market is doing better than it really is. 

One study found that the S&P 500 index would have been 19% lower in 2011-2019 had it not been for stock buybacks during that period (other studies dispute this effect).

 The Floodgates Are Opening

Now, Wall Street banks are on the verge of announcing a flood of stock buybacks and dividend increases, after they passed the Federal Reserve’s latest stress tests with a huge wad of cash they built up during the pandemic.

So, bankers can announce their plans for distributing “capital” after the market closes next Monday, and the industry’s strong test results point to payouts that observers are saying will likely be the largest ever. 

Early estimates suggest that the six biggest U.S. banks — JPMorgan ChaseBank of America, Wells Fargo, Citigroup, Goldman Sachs and Morgan Stanley — could return more than $140 billion in silly money to shareholders…to start.

The passing grades, announced yesterday, mean that the banks are officially free from restrictions that the big, bad Fed put on dividend payments and share repurchases last year when Covid-19 was ravaging a U.S. economy that had already fallen into recession. 

This year’s hypothetical crisis test saw the biggest U.S. banks’ aggregate “common equity tier 1 capital ratio” fall to a minimum of 10.6% (which is more than twice the 4.5% minimum the agency requires). 

Goldman Sachs, as usual, was among the Too Bigs that were closest to the edge, with 8.8%. Wells Fargo also found itself at that level.

Speaking as a doting parent of a middle schooler who just made another honor roll, the Fed’s vice chair of supervision Randall Quarles said:

“Over the past year, the [Fed] has run three stress tests [that] have confirmed that the banking system is strongly positioned to support the ongoing recovery.”

Fed Stress Tests Are Too Lenient

Since they began, I’ve wondered if the Fed’s stress tests are too lenient —  akin to giving a 6th grade-level math test to a senior honors student.

Ok, there may be that one or two questions that throw you off for a bit, but overall you were always destined to pass.

The financial emergency envisioned in this year’s exams included an 11% U-3 unemployment rate (the more realistic U-6 rate is already at 9.7% and was at 22.4% last April) and the stock market tanking by more than half.

The tests produced one-off losses for all 23 lenders that were tested, based on their unique books of business.

The banks use those numbers to assess how much cash they can afford to dole out to investors, a metric known as the stress capital buffer. 

Unlike in previous exams, however, banks don’t need the Fed to sign-off on those capital plans, as long as each stays above its established capital minimum. All tested banks exceeded the Fed's key capital ratio of 4.5%

If a bank falls below its required stress capital buffer at any point in the year following the stress tests, the Fed can hit it with sanctions, like restrictions on buybacks, dividends and bonus payments.

Even before yesterday’s results were released, Wall Street lobbyists were lauding banks’ plans to boost payouts to shareholders. 

Kevin Fromer, who runs the Financial Services Forum in Washington, argued (with a straight face) that increased dividends and buybacks are “a promising sign for the economy.”

Such comments aren’t likely to impress congressional lawmakers who advocate on behalf of consumers. 

Several members of the House and Senate have frequently criticized buybacks, calling them a form of market manipulation that enriches executives and exacerbates income inequality. 

Instead, they argue, banks should use their excess cash to invest in their businesses and their employees.