2017 Stress Tests: Citigroup Approved to Increase Dividend and Share Buybacks

The Federal Reserve announced the results from the second round of this year's stress tests on Wednesday. The news clears the way for Citigroup (C 0.26%) and roughly three dozen other large banks to raise their dividends and buy back more stock.

Citigroup responded immediately, saying that it will indeed increase the amount of capital it returns to shareholders. The bank will double its quarterly dividend to $0.32 per share and add $15.6 billion to its share buyback authority. These planned capital actions total $18.9 billion over the next four quarters.

"Today marks a significant milestone for Citi and our shareholders," said CEO Michael Corbat.

This year's CCAR results demonstrate that Citi has the ability to withstand a severe economic scenario and remain well capitalized, while also substantially increasing our level of capital return. For some time, we have retained a significant amount of capital in excess of what is needed to prudently operate and invest in the firm. Now we can begin delivering on two of our most important priorities -- returning a higher level of that capital to our shareholders and improving Citi's overall returns.

Data source: Citigroup.

The Dodd-Frank Act stress tests

Citigroup's showing in the first round of this year's stress tests telescoped today's announcement. The results from the first round, referred to as the Dodd-Frank Act stress test, or DFAST, were published last Thursday. Citigroup demonstrated in the DFAST that it has far more capital than it needs to survive a severe economic downturn akin to the financial crisis.

The Citigroup Center in New York City. Image source: Getty Images.

To pass DFAST, a bank must maintain a common equity tier 1 capital ratio, or CET1 ratio, of 4.5% through the test's nine-quarter time horizon. So long as a bank does so, it will pass. If it comes up short, then it fails. It's a purely quantitative exercise.

In Citigroup's case, the New York-based bank comfortably cleared this mark. It entered the test with a CET1 ratio of 14.9%. This declined by more than 500 basis points to 9.7% at the low point in this year's DFAST, but even then it was still well over the 4.5% regulatory minimum.

The Comprehensive Capital Analysis and Review

The second round of the stress tests, the Comprehensive Capital Analysis and Review (CCAR), goes a step further than the first round, by giving the Fed the authority to veto big bank capital plans.

As the Fed explains:

When considering a firm's capital plan, the Federal Reserve considers both quantitative and qualitative factors. Quantitative factors include a firm's projected capital ratios under a hypothetical scenario of severe economic and financial market stress. Qualitative factors include the strength of the firm's capital planning process, which incorporate the risk management, internal controls, and governance practices that support the process. The Federal Reserve may object to a capital plan based on quantitative or qualitative concerns. If the Federal Reserve objects to a capital plan, a firm may not make any capital distribution unless expressly authorized by the Federal Reserve.

Although Citigroup has struggled on the CCAR in the past, there were no signs of trouble this year. After factoring in its planned capital actions, its minimum CET1 ratio fell to 8%, which is still well above the 4.5% minimum.

Expectations that Citigroup would pass the 2017 CCAR, and thereby accelerate its capital return program, sent the bank's stock up 1.5% on Wednesday. It was up a further 2.4% in after-hours trading.