- The four largest US banks, C, JPM, BAC and WFC, have significant capital buffers at present.
- New, more stringent rules would be especially interesting during annual stress tests as it would potentially alter capital return plans in future years.
- Surprisingly, C and BAC have the strongest capital positions of the four largest banks.
With the impending vote by regulators on whether or not to make capital requirements more stringent on the largest eight US banks, I thought it would be instructive to take a look at the top four banks, lovingly referred to as too-big-too-fail by investors, to see how they're doing with respect to accumulating capital. We'll take a quick look at each of the big four's capital ratios and see how they stack up against each other; the results may surprise you.
To begin, the four are Bank of America (NYSE:BAC), JPMorgan (NYSE:JPM), Citigroup (NYSE:C) and Wells Fargo (NYSE:WFC). These are the four largest banks the US has to offer and the ones most referenced when discussing TBTF. As there are seemingly endless capital ratio calculations we'll need to define what we're looking at here. For this exercise I've used Tier 1 Common Capital under Basel III Advanced Approach rules as the ratio of choice as a sort of baseline for each bank's capital position. Basically, this measure includes core Tier 1 Common Capital divided by the company's risk-weighted assets under the Basel III Advanced Approach. This is a true measure of capital as it excludes things like goodwill and other intangible assets that can't be sold in the event of liquidity needs cropping up. So this measure gives us a good baseline to go off of in assessing the TBTF banks' capital positions.
Without further ado, the Tier 1 Common Ratios, as pulled from their respective SEC filings, of the four banks are as follows: Citigroup-10.59%, Bank of America-9.96%, Wells Fargo-9.78%, JPMorgan-9.5%. How many of us saw that coming? Citi and BAC are widely regarded as the "riskier" of the TBTF banks, and I don't think anyone will dispute that, yet their Tier 1 Common Ratios are materially higher than their TBTF brethren that are considered "safer" companies to own.
This also highlights just how far these banks have come since the financial crisis when both required tens of billions of dollars in outside money to stay afloat amidst enormous losses following years of bad decision making and too much risk taking. JPM and WFC were safe throughout the crisis in terms of capital buffers as those firms have always been prudently managed. However, seeing that C and BAC have higher capital buffers right now is likely an eye-opener to many investors.
The vote today will be an interesting one and it could set the course for the next round of capital requirement hikes on the biggest of our country's banks. Whether the measure is approved or not, and I'm leaning towards it being approved, it will serve as a baseline for regulators going forward for how to judge risk and how much of a buffer each of these banks has. I believe that even if this particular measure is voted down, something more stringent will come along for the nation's largest eight banks. But as I said, I do believe this will pass because it is not an onerous requirement in my view and with these banks representing the vast majority of assets held in the US, it is likely justified. Fortunately, as we've just seen, none of these banks will see much of an impact at all from higher leverage requirements at the present time as all have significant capital buffers. This would only come into play during annual stress testing as a higher minimum means the banks must de-risk somewhat in order to comply with the adverse economic scenarios that are modeled in. This is particularly the case with Citi and BAC because of capital return plans being rejected and revised, respectively, this last time around; investors in those companies will be watching with an especially keen eye. Today's vote will undoubtedly be interesting.
Disclosure: I am long BAC. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.