What's going on?
The US Federal Reserve (the Fed) has finally released frustrated US banks from its lockdown on dividends and share buybacks, and they can’t wait to go wild.
What does this mean?
With so much uncertainty at the height of the pandemic, the Federal Reserve (the Fed) froze banks’ share buybacks and dividends to make sure they had enough cash to see them through. Fast forward to this year’s annual “stress test”, and the Fed’s been assessing how those banks would cope if – among other things – there was a severe global recession, a more than 50% drop in the stock market, and a spike in unemployment.
The Fed concluded that US banks by and large had enough money in reserve to survive – unsurprising, considering that doomsday scenario mostly played out last year. And once it gave the okay to start payouts again, there was no hanging around: Morgan Stanley and Wells Fargo quickly doubled their quarterly dividends, and announced up to $12 billion and $18 billion of share buybacks respectively.
Why should I care?
For markets: Value investors told ya so.
Bank stocks tend to do better when interest rates are high, since they make more money from loans than it costs them to borrow. Rock-bottom interest rates, then, have made it harder for banks to earn as much, which – along with absent payouts – might be why investors sold off their shares last year. So investors who bought back then don’t just benefit from higher cash payouts: the stocks themselves are worth a lot more since the banks’ announcements earlier this week.
For you personally: There’s still value in European banks.
European banks are doing well too, with one key index up 76% from its September lows. But that index is still below pre-pandemic levels, and banks’ earnings are looking promising: trading desks are likely benefiting from buoyant financial markets, while rising bond yields should make it more profitable for banks to lend (tweet this).