Big Bank Stress Tests Provide Positive Results

Each year, the Federal Reserve conducts “stress tests” on banks to gauge their overall health. They want to see if a bank would be able to endure a lengthy, adverse economic scenario while still being able to lend to individuals and businesses.

These tests were brought about by the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010.

The 2014 tests have just been administered, and as a whole it looks like the banks are pretty healthy (source).

Out of the 30 banks that were given the test, only one failed to meet the 5% top-tier capital threshold. That bank was the Utah-based Zions Bancorp, which reached just 3.5%. (Regulators use the Tier 1 – or top-tier – capital ratio to grade a firm’s capital adequacy as one of the following rankings: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. To get the best score of well-capitalized, an institution must have a score of 6.0% or higher.)

Those bank holding companies (BHCs) with $50 billion or more in total consolidated assets were part of this year’s testing.

Next-worst – though passing the test – were Bank of America (6.0%) and JP Morgan Chase (6.3%). Bank of America’s rate actually dipped to 5.9% after the Federal Reserve made minor tweaks to the stress test criteria. Because they went below the 6% threshold, some experts surmise they may need to resubmit its capital request … and their shareholders may see lowered capital amounts.

On the other side, those finishing among the leaders were State Street Corporation (13.3%), and Bank of New York Mellon (13.1%).

The next important test comes in the coming days, with the Comprehensive Capital Analysis and Review (CCAR). The difference between the stress tests and the CCAR is the action plans – specifically, what the banks do for their shareholders.

When the Federal Reserve believes 29 out of 30 banks can survive a severe economic meltdown with no government assistance, this is very encouraging news – and as an aggregate, the banks passed with higher scores than last year. And if you want a little extra good news, the Fed is also predicting fewer trading losses and fewer bad loans in the coming 12 months.