Which Banks Will Raise Their Dividend First?

Virtually every major U.S. bank slashed its dividend during the credit crisis. One factor that has kept those dividends at rock-bottom levels is the lingering uncertainty concerning new capital adequacy standards. In Basel, regulators finally agreed on global minimum capital standards this month. In light of the new requirements, which banks will raise their dividend soonest?

What is this Tier 1 capital you speak of?
The new standard that banks much achieve is a minimum 4.5% common equity ratio and a 6% Tier 1 capital ratio. Tier 1 capital is the highest grade of capital, consisting of equity capital (common shares and non-cumulative preferred shares) and disclosed reserves.

In addition, the new rules call for a "conservation buffer" of 2.5% as a margin of safety for periods of rising loan losses and a "countercyclical buffer" ranging from 0%-2.5% that applies "when there is excess credit growth" (read: during a credit boom/ bubble). But the countercyclical buffer isn't the end of it. The new rules out of Basel also specify that "systemically important banks should have loss absorbing capacity" beyond these standards.

The "too-big-to-fail" buffer
All in, after adding my own indicative "too-big-to-fail" buffer of 2.5%, we finally get to a common equity ratio of 12%. How does the "too-big-to-fail" set in the U.S. measure up? The table below contains the Tier 1 common equity ratio for 16 of the 18 public-traded banks and financial institutions that the Fed and the Treasury subjected to stress tests in 2009 in order to determine whether they were adequately capitalized. Some institutions provide these ratios in their filings; in other cases, I had to derive them.

Company

Tier 1 Common Equity Ratio at June 30, 2010

Tangible Common Equity Ratio at June 30, 2010

State Street

14.8%

12.5%

Goldman Sachs

12.5%

13.5%

Bank of New York Mellon (NYSE: BK  )

11.9%

11%

American Express

10.7%

10.4%

Citigroup (NYSE: C  )

9.7%

11.8%

JPMorgan Chase (NYSE: JPM  )

9.6%

9.9%

Morgan Stanley

9.2%

10.5%

PNC Financial*

9%

8.4%

BB&T

8.9%

9%

KeyCorp

8.1%

8.8%

Bank of America (NYSE: BAC  )

8%

5.4%

SunTrust Banks

7.9%

8.9%

Regions Financial

7.7%

8.2%

Wells Fargo (NYSE: WFC  )

7.6%

8.2%

US Bancorp (NYSE: USB  )

7.4%

6.9%

Fifth Third Bancorp (NYSE: FITB  )

7.2%

7.2%

Source: Company filings. *Estimated at July 1, 2010, to account for the sale of its GIS unit.

6 banks where dividend increases may not be long coming
Only two of the largest U.S. banks meet the standard: Goldman Sachs and State Street (Goldman didn't cut its dividend in the first place.)

Even if we reduce the countercyclical buffer to zero, for a minimum common equity ratio of 9.5%, only four other institutions pass muster. They are Bank of New York Mellon, American Express, Citigroup, and JPMorgan Chase.

However, bearing in mind that these targets are being phased in gradually during this decade, I expect the authorities to allow all of these banks to lift their dividend as early as the first half of next year. In fact, JPMorgan CEO Jamie Dimon suggested to investors they might see an increase early next year at the Barclays Financial Services Conference last Monday.

4 banks that may keep shareholders waiting
At the other end of the spectrum, Wells Fargo, Fifth Third Bancorp, US Bancorp, and Bank of America all look inadequately capitalized under the new regime. Even though Wells and US Bancorp are among the best-run U.S. banks, shareholders shouldn't expect anyone in this group to raise their dividend before 2012, in my opinion (barring a capital raising, of course – which isn't out of the question). In an environment in which investors have new found respect for income, that constraint could continue to weigh on these banks' share price.

In this market, dividends will be the fundamental component of future stock returns; Matt Koppenheffer tells you where to find the best dividends.

Fool contributor Alex Dumortier has no beneficial interest in any of the stocks mentioned in this article. Try any of our Foolish newsletter services free for 30 days. True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community. The Motley Fool has a disclosure policy.


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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 20, 2010, at 9:32 PM, ron153 wrote:

    This article is another superficial overview, that fails to delve into detail. Wells Fargo has higher credit quality than any of the other banks, giving it a lot more capital room than the others have. They are also better reserved for Fannie and Freddie put-backs.

    They have over $20 billion of off-balance sheet reserves remaining from the Wachovia acquisition. This is not factored into the capital ratios in your table. It is essentially off-balance sheet capital. A lot of people make the mistake of overlooking this.

    Their earnings will soar next year, as a lot of the reserves they took this year were on-time items and the expenses of the Wachovia acquisition will have run off by year-end. Their new loans are of the highest quality, they do not rely on trading revenues, and they will re-enter the MBS market to enhance their margins.

    Do the work, there is a lot to sort through here. It takes time, but if you do the work you will find Wells is the strongest of the large banks. That is why Buffett, Druckenmiller and Watsa all count Wells as their second largest holding.

    Wells Fargo is the largest equity holding in my personal and client portfolios.

    Ron Beasley

    www.rwbi.net

  • Report this Comment On September 21, 2010, at 7:59 AM, TMFAleph1 wrote:

    @Ron

    Do you have a reference for the $20 billion off-balance sheet reserves inherited from the Wachovia acquisition? I'd be very curious to confirm why they are not included in Wells' consolidated balance sheet and whether or not they are included in the firm's capital ratios

    Alex Dumortier

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