New Rules Give U.S. Banks Trouble

When the U.S. Federal Reserve Board said that banks must not raise dividends above Q2 levels in Q3, markets dumped financials in a hurry. The Fed’s interference suggests that the downside view for the credit market is worse than most think.

The Fed said that banks need to resubmit their capital plans that reflect current stresses. Despite banks already showing a strong capitalization, the restriction hurts shareholders. Without buying back stock or raising its dividends, the Fed is forcing banks to spend the cash on hand on the market, instead.

Fortunately, the Fed eased the Volcker Rules, which would bring more liquidity to venture-capital funds. But to protect its lending portfolio, banks like Bank of America (NYSE:BAC), Citi (NYSE:C), and Wells Fargo (NYSE:WFC) may still want to apply strict loan requirements. Recklessly lending money to those who are unlikely to pay it back will hurt their shareholders. This will also imply that Wells Fargo will face slowing revenue growth and a profit squeeze.

In the next few months, bank profits will face tremendous pressure. WFC, BAC, and C stock are close to reflecting the headwinds ahead.

Investors with a time horizon of two or three years should start accumulating shares in these companies after the dip ends.