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A Look At The Capital Levels Of 5 Big Banks

Maxwell is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

With the Federal Reserve's 2013 Capital Review, aka “Stress Test” underway, I thought I would take a look at the capital levels, for better or worse, of some noteworthy banks and situations. Suffice it to say, it is never as simple as it first might seem.

The main focus on the stress test is whether, under a series of scenarios, the most severe of which involves a worldwide economic meltdown of epic proportions, is whether banks still be able to maintain Tier One Capital of at least 5%, which includes any sort of capital distributions to shareholders the subject banks are looking to make during 2013.

It was not that long ago that even successful banks had capital ratios about half of what the typical bank is at today. As shareholders' equity is the largest component of that capital, in those days it was not hard to have a bank post a 20% or more return on that equity in earnings. But now, since so much more equity is being carried on the books of banks, even if banks are earning far more money the returns on those vast stores of equity are no longer nearly as impressive. For the most part, I have stopped even looking at returns on equity when looking at a bank's return, instead focusing pretty much solely on a bank's returns on assets.

Under the strict Basel III rules, the best capitalized trillion dollar asset bank in this country is Bank of America (NYSE: BAC), with Basel III, Tier One equity of 8.97% at the close of the third quarter. Its traditional Tier One common equity ratio stood at an impressive 11.41%. You will note that Bank of America has not been heating up Wall Street with scintillating profits of late. In fact, its third quarter was more or less a break even quarter. And the big North Carolina based bank still has likely under reserved for losses due to mortgage repurchase claims. But that $163 billion of common equity is a nice buffer against loss, although it obviously does little to contribute in terms of earnings.

The next highest capital marks among the trillion dollar banks, surprise, goes to Citigroup (NYSE: C). At the close of the third quarter it’s Basel III, Tier one common ratio was 8.6%. Its traditional Tier One common ratio was up to 12.7%, and it had squirreled away $185 billion in common equity. That is not too shabby for a bank that had actually failed the Fed's 2012 Stress Test. Of course the scenarios hypothesized a year ago did not take into account that many banks, and Citigroup in particular, have vast holdings overseas. The 2013 test will address that scenario as well, with Citigroup being the most vulnerable due to prior management's focus on developing countries.

What Bank of America and Citigroup have in common, other than their size, is that among the largest banks, these two have struggled the most in recovering from the banking crisis of last decade. Both these banks have been unable to launch share buybacks or pay anything more than a nominal dividend. But when not burdened by one-time events, both banks can even accidentally make billions of dollars annually that flow right down to retained earnings and common equity on their balance sheets.

JPMorgan's (NYSE: JPM) Basel III, Tier One equity came to 8.4% at the close of the third quarter. Its Tier One capital was 10.4%, and it carried about $200 billion in equity on its books. Of course, until the second quarter trading scandal, JPMorgan was spending tens of billion annually on dividends and stock buybacks. The buybacks have ceased, but the bank's $1.20 annual dividend costs JPMorgan $4.5 billion per year. In general, JPMorgan posted a stellar third quarter, with a 1.01% return on assets. A few more quarters like that, and a continued suppression of the share buyback problem, and soon JPMorgan really will have the “fortress balance sheet” that CEO Jamie Dimon has long claimed to have.

The most profitable of the nation's big banks in the past few years has been Wells Fargo (NYSE: WFC). At the close of the third quarter, its Basel III, Tier One level was 8.02%, and its Tier One Common Equity level was 10.06%. Its’ total equity at the close of the third quarter was $106  billion. More than the other banks discussed above, Wells Fargo is focused as a retail bank, with “stores” from coast to coast, and a dominant share of the nation's mortgage loans. In its third quarter, it posted typically strong earnings, with a return on assets of 1.45%. Through the first nine months of 2012, Wells Fargo has spent $2.6 billion buying its own stock, and through its dividend it is committed to an annual $4.6 billion. With the consistency of Wells Fargo's earnings, it will still be able to contribute well over $10 billion annually toward its retained earnings. I am not concerned at all about Wells Fargo bringing up the rear in terms of capital among our biggest banks.

Of course one does not need to be a megabank to have quality capital levels. Among the most trodden upon big regional banks that still has not recovered from the recession is Regions Financial (NYSE: RF). Regions' Basel III, Tier One capital at the end of the third quarter stood at 8.69%, and its Tier One ratio stood at 10.46%. What is remarkable about Regions is how far it has come in stabilizing itself in the past year. Its capital level has improved a whopping 195 basis points from a year ago, due to substantial corporate restructuring. Now, I am awaiting signs that the bank can become reasonably profitable again. It is on pace this year to report earnings approaching a 1% return on assets. In the near term, it is time for Regions to begin to grow its loan portfolio again, which has fallen about 30% since 2007, limiting the bank's earnings potential. But compared with Regions' position a year ago, I have no complaints with management. 

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