Federal Reserve Vice Chairman of Supervision Randal Quarles' plan to make changes to the proposed stress capital buffer for large banks could be "mildly negative from a credit perspective," according to Fitch Ratings.
The proposed stress capital buffer, or SCB, would replace the current conservation capital buffer of 2.5% of risk-weighted assets, which is applied equally among all big banks. Fed Governor Quarles said the SCB would set specific requirements for each bank depending on how they performed on their latest stress tests.
All banks would have excess capital above their respective SCBs under the proposed rule, Fitch noted.
Quarles called for a repeal of the stress leverage buffer requirement, saying the Fed already implements something similar by requiring banks to meet certain leverage ratios. Fitch said the stress leverage buffer would have effectively eliminated the requirement that banks satisfy the supplementary leverage ratio, or SLR, on a post-stress basis. Thus, it is unclear whether the SLR on a post-stress basis will be included in the final plan.
He also discussed removing a requirement that banks prefund planned dividend payments over the next four quarters, saying the SCB can already curb distributions if a bank's capital is not high enough. Fitch said "a gradual stepdown in dividends may be more realistic," given that U.S. banks generally do not slash dividends to zero.
As an alternative to prefunding dividend payments, Quarles floated two changes to the SCB framework. The first would increase the countercyclical capital buffer, or CCyB, above 0% during times of economic stability. The second would raise the SCB floor above 2.5%.
While Fitch said an increase to the CCyB baseline could better align the U.S. with other developed markets, it may only hit banks that have generally performed well in stress tests. However, Fitch also said the Fed would not raise the CCyB without clear signals of a looming economic downturn, and the increase may only take effect after 2021.
Lastly, Fitch said all banks required to participate in the Comprehensive Capital Analysis and Review would benefit from changes to dividend prefunding requirements and the elimination of the stress leverage buffer. But the ratings agency said increasing the SCB floor to 3% or higher could negatively impact firms with capital erosion below 2.5% that usually do well on stress tests because "it could impact the distribution of excess capital."
