On March 18th, the Federal Reserve announced that dividend increases and share repurchases would be allowed for many of the major bailed-out banks. Wells Fargo wasted no time announcing they would raise their dividend payment to $0.12 per share, up from around $0.05. Goldman Sachs announced the buyback of $5 billion of Warren Buffett preferred shares, which will subsequently boost the common share dividend for Goldman equity holders.Perhaps the most disturbing fact about the Fed’s “free pass” to banking shareholders is that banks are still not lending. In fact, banks continue to expect zero loan growth and even possible contraction.
Russell Napier recently released a piece entitled “QE2 Failure – Sell US Equities” in which he points out that, based on conversations with the five largest United States banks, the CLSA bank team estimates that these banks need “to run down, sell, or restructure as much as $642 billion of their loans over the next three to five years.” As Napier explains, if the final number ends up being $500 billion, it would represent a 5.5% contraction of total bank credit – an economy-stifling squeeze.
One of the Fed’s public frustrations has been the lack of bank lending, which is necessary in order to truly expand the money supply. But by allowing dividends and share repurchases, they are consequently permitting a decrease in banking capital levels. Could this be a bell-ringing moment for the Fed?
Furthermore, with housing prices once again declining (and hence banking collateral), the banks’ balance sheets are weakening. With the Case-Shiller home price index hitting new lows, Corelogic estimates that the total amount of negative equity in the United States housing market has surpassed $751 billion.
Of course, investors find it difficult to diagnose the true health of the banking sector since the FASB succumbed to political pressure in 2009 and allowed new accounting rules.
In a capitalist system, should the government (or the Federal Reserve) determine whether or not a private sector bank can pay a dividend to shareholders? Perhaps the question loses relevancy once taxpayer money bails out these banks in the first place.
The CEOs of the major banks will reap incredible profits from the dividends they pay themselves as shareholders. Any risks are negated because the CEOs know the Fed will protect their shareholder stake if they again encounter trouble. Little resembles capitalism in the current setup.
So with very little “fixed” since the banking system teetered on the abyss a couple of years ago, good times appear to be back again for profit-takers. With manufactured profits generated off of altered accounting rules, shareholders can reap the rewards of profits earned off of the taxpayer checkbook.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.