Will America’s Biggest Banks Pass Their Coronavirus Test? – Forbes

Will America’s Biggest Banks Pass Their Coronavirus Test?  Forbes

With the stock market reeling due to the outbreak of the coronavirus pandemic, the CEOs of the biggest banks in America were brought to Washington last week to meet with President Trump. Then, on Sunday evening, the Federal Reserve opened up a box of emergency tools not seen since the crisis-era to help the financial system deal with the economic fallout of the pandemic.

A dozen years ago, such scenes were commonplace as banks were brought to their knees by the 2008 crisis. This time, they may be having their moment. The U.S. banking sector is perhaps the best positioned industry to help the country get through the growing economic disruption of the pandemic, and the current turmoil is an opportunity for firms to build new trust across Main Street, Corporate America, and the halls of Congress.

Businesses will need loans and short term credit to get through this crisis. Banks have the financial wherewithal and the regulatory support to pump money into the ailing economy.

The vital role banks will play was underscored on Sunday when the Federal Reserve cut interest rates to between 0%-and-0.25%, lowering rates a full percentage point, and announced a $500 billion increase in its holdings of treasuries and a $200 billion increase to its mortgage-backed security portfolio. Beyond the headline numbers, the Fed’s emergency move also came with new measures to make it easier for banks to lend, which may prove even more important.

The regulator made it clear to every bank CEO in America it will be supportive of firms that use their strong financial position to lean in and help customers. “Since the global financial crisis of 2007-2008, U.S. bank holding companies have built up substantial levels of capital and liquidity in excess of regulatory minimums and buffers,” the Fed said Sunday, noting large banks have $1.3 trillion in common equity and hold $2.9 trillion in high quality liquid assets.

“These capital and liquidity buffers are designed to support the economy in adverse situations and allow banks to continue to serve households and businesses,” it said, and stated: “The Federal Reserve supports firms that choose to use their capital and liquidity buffers to lend and undertake other supportive actions in a safe and sound manner.” Were the Fed to formally suspend these capital and liquidity buffers, it would free up “trillions of dollars of lending capacity,” according to analysts at research firm Keefe Bruyette & Woods.

In addition to the supportive tone, the Fed lowered its primary credit rate by 1.5% to 0.25% to encourage banks to turn to its so-called ‘discount window’ to meet borrowers’ demands. Deposit-taking banks will be allowed to borrow from the window for as long as ninety days with an option to prepay or renew daily. Additionally, the Fed reduced reserve requirement ratios to 0% effective March 26, thus making over $200 billion of capital availble to lend to households and businesses, according to KBW.

Additionally, the Financial Services Forum, a banking industry advocacy organization, announced on Sunday evening that JPMorgan, BofA, Citigroup, Wells Fargo, Goldman Sachs, Morgan Stanley, Bank of New York Mellon and State Street will temporarily suspend their share buybacks in order to use excess cash to support the economy. “The decision on buybacks is consistent with our collective objective to use our significant capital and liquidity to provide maximum support to individuals, small businesses and the broader economy through lending and other important services,” the group said.

All of these measures give banks a green light to lend.

Confidence in lenders is high. Since the crisis, the largest banks in America have been tested by the Fed on their ability to remain solvent during a severe financial crisis and make good on credit commitments and offer new loans. Now comes a huge test, and one where banks are likely to thrive. The most important firms have the capacity to offer capital to businesses looking for a bridge of cash to get past the pandemic.

“Banks have had to deal with stringent regulatory hurdles like liquidity coverage ratios and Basel III requirements that are far stricter than they ever have been,” says Tony Scherrer, director of research and a portfolio manager at Smead Capital Management, a mutual fund firm that holds shares in JPMorgan, Bank of America and Wells Fargo. “This is clearly a stressed situation, so it’s good that banks have had this extra regulatory environment. Now they’re positioned in a great manner to handle a situation like the coronavirus.”

Companies large and small are considering drawing down credit lines with their lenders in order to build an emergency stockpile of cash. Many, including America’s largest exporter, Boeing, have already done so. On Wednesday, Boeing tapped its $13 billion credit facility with a syndicate of banks including JPMorgan, Bank of America, Citigroup and Wells Fargo.

The sheer size of the maneuver led many industry experts to study whether banks can make good on the credit they’ve extended to customers. With stores shuttered and consumer traffic grinding to a standstill, these credit lines may wind up being a lifesaver for many businesses. Independent analysts are confident that banks can handle the demand.

The largest fourteen U.S. banks will have the capacity to pump at least $500 billion of cash into businesses by way of fulfilling corporate credit lines, according to fixed income research firm CreditSights. “We think the sector is ready, willing and able to support a surge in corporate credit demand,” said a team of analysts led by Jesse Rosenthal in a Friday report. At an overall 20% draw on these firms commitment lines, lenders would be able to easily support $493 billion of temporary credit to customers, with JPMorgan leading the bunch at $108 billion and BofA easily handing $95 billion, CreditSights found. “We think U.S. banks retain ample liquidity to meet corporate demand and fund commitments amid the turmoil.”

Confidence in banks’ financial position largely comes from the Fed’s stress tests. In them, banks were examined on their capital and liquidity—and over a dozen other metrics—in the event of a bad recession, deemed an ‘adverse’ scenario, and a calamity, deemed a ‘severely adverse’ scenario. Last June, the Fed found that not only would bank capital bottom at common equity ratios surpassing 9% in a severe situation—a strong measure—but firms would also hold ample resources to meet credit demand, even if deposits were being pulled. Smaller regional banks were tested in June 2018, and they came out of their exams with even stronger results because they lack risky trading and capital markets exposures.

CreditSights believes its $500 billion estimate is a conservative number because recent stressed environments have led to inflows of deposits, instead of the steep deposit outflows that banks are tested against. “Risk-off capital market environments often drive higher deposit inflows,” said Rosenthal of CreditSights, “with positive implications for banks’ ability to meet facility funding demands.”

Proving support to customers through the disruption is not a very profitable near-term proposition for banks, especially as interest rates approach zero. Bank stocks have already plunged due to falling rates and the risk of a recession. But banks that soften the likely recession and credit freeze may come out with stronger long-term relationships.

“Lenders are generally not in the business of bankrupting their customers, especially if the COVID crisis is as transitory as we all hope,” said Rosenthal, “And with banking an increasingly relationship-based business, both wholesale and retail, there is more at stake for a lender than just a credit commitment.”

In a Saturday interview, Brian Klock, an analyst at Keefe Bruyette & Woods broached the idea that regulators may try to incentivize banks to stick with their customers, potentially by offering leniency on certain regulatory treatments. For instance, Klock believes banks may be willing to temporarily forbear on some loan payments or non-payments due to the disruption, provided they are not forced to account for those loans as non-performing, which would consume capital.

Last week, Kelly King, the CEO of Truist Financial, the largest super-regional bank in America, echoed the sentiment. He said regulators are studying ways to help banks provide relief to troubled customers at an investor conference on Wednesday. “In the billing of businesses and consumers, they need help and a lot of times, they can pay the bill. They just need a little extension of terms or maybe we want to drop the rate for them a little bit, but the minute we do that, it becomes a TDR (or troubled debt restructuring),” King said at a conference hosted by RBC Capital. “So we are appealing to the regulators, they seem receptive.” he added.

Klock is a fan of these potential short-term easements, “If we give banks a little extra ammunition it will be good for the economy and for companies.”

Last week, European banking regulators softened capital and liquidity requirements for lenders so they could continue pumping credit. The tone of the Federal Reserve’s Sunday announcement, in which it urged banks to make use of their resources, indicates it has a similarly supportive view.

“From a PR perspective, we think the industry is incentivized to prove that post crisis reforms have worked—banks have been stumping for, and recently getting, regulatory relief under the guise of historically strong sector fundamentals,” adds CreditSights’ Rosenthal. “Now they get a chance to walk the walk.”

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Source: forbes.com

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