Fed Said to Raise Requirements for Banks to Repay TARP Funds

June 3 (Bloomberg) – Federal Reserve officials surprised bankers in the past week by demanding they raise specific amounts of new capital before repaying taxpayer funds, applying a more stringent assessment than the stress tests in May.
JPMorgan Chase & Co. and American Express Co. were told they need to boost common equity, less than four weeks after being informed they had enough to withstand a deeper economic slump. Morgan Stanley was directed to raise more funds after already selling stock to cover its stress-test shortfall. One firm was told June 1, people with direct knowledge said.
The central bank’s further scrutiny signals concern at the political and economic dangers of having a bank boomerang back to government aid once it leaves the program.
“The Fed doesn’t want to be criticized for allowing people to repay this and then having the banks say we just don’t have the capital to make loans now,” said Lawrence Kaplan, a former attorney at the Office of Thrift Supervision who now works at law firm Paul, Hastings, Janofsky & Walker LLP in Washington. “It’s an exercise to make sure that no one is going to get criticized for allowing these redemptions.”
The Fed’s demands also partly reflect the biggest three- month rally in U.S. financial shares in at least two decades, which has made it easier for banks to raise the funds. The central bank said in a June 1 statement that the biggest 19 lenders “must successfully demonstrate access to public equity markets” before repaying TARP money.
Goldman’s Case
Goldman Sachs Group Inc. hasn’t been required to seek any more funds since the firm raised $5.75 billion by selling shares in April, according to a person familiar with the matter. The firm sold $1.91 billion of stock in Industrial & Commercial Bank of China Ltd. this week, of which about half is owned by funds managed by Goldman Sachs. That sale was unrelated to any capital raising requirements, the person said.
JPMorgan Chase & Co. Chief Financial Officer Michael Cavanagh told analysts on a conference call June 1 that the New York-based bank was informed by regulators it needed to raise $5 billion in common equity. JPMorgan announced it would sell that amount.
“We believe we’ve met all the terms to get out of TARP,” JPMorgan Chairman Jamie Dimon said on the conference call. “If we don’t get out of TARP, we’d be very surprised. We don’t think we should be surprised.”
First Approvals
Fed approvals for an “initial set” of TARP repayments by banks among the 19 largest institutions are scheduled to be announced next week.
“Both the banks and the government would like to have the institutions operate on their own,” said former Fed Governor Randall Kroszner, who is now an economics professor at the University of Chicago’s Booth School of Business. “It is very important that the stability of those institutions not be questioned during the recovery.”
Morgan Stanley, JPMorgan and American Express raised at least $7.7 billion this week as they learned of the new hurdles to leave the TARP.
Morgan Stanley was judged in last month’s stress tests to need an additional capital buffer of $1.8 billion. The New York- based bank then raised $4.6 billion in common equity, only to be told this week it needed $2.2 billion more to repay TARP.
“It doesn’t make a lot of sense if they’ve raised well in excess of the initial capital requirement to then be told you need a little bit more,” said David Killian, a portfolio manager at Sterling Asset Management LLC in King of Prussia, Pennsylvania, who manages $500 million including stock in Morgan Stanley, JPMorgan and Goldman Sachs. “It’s government.”
Dimon’s Riposte
The 19 largest U.S. banks have more than $200 billion of preferred equity shares owned by the Treasury. The TARP program became a stigma for banks after the government set compensation limits and began criticizing the expenses of companies receiving aid. JPMorgan’s Dimon poked fun at the program June 1, reading a mock letter to Treasury Secretary Timothy Geithner.
“Dear Timmy, we are happy to be able to pay back the $25 billion you lent us,” Dimon said at the 31st Annual NYU International Hospitality Industry Investment Conference. “We hope you enjoyed the experience as much as we did.”
Banks’ funding costs have declined and their reliance on the Fed’s liquidity programs has diminished as confidence in the financial system improves. The London interbank offered rate, or Libor, for three-month dollar loans stood at 0.65 percent yesterday, down from 1 percent May 1, according to the British Bankers’ Association.
Loss Estimate
The Fed’s May 7 analysis showed that banks could lose $599.2 billion over two years in a “more adverse” scenario. That projection was based on an unemployment rate averaging 10.3 percent in 2010, with a 0.5 percent economic expansion – less than the 1.9 percent median estimate in a Bloomberg News survey.
One risk is that the loss estimates the Fed used on specific products, such as credit-card loans and commercial real-estate loans, is even higher for some firms.
If banks repay TARP funds next week, “politically, the administration can claim a victory,” said Dino Kos, managing director at Portales Partners LLC and a former New York Fed executive vice president. “They can claim TARP is working, we’re getting our money back and making a profit. But there are more shoes to drop in commercial and industrial loans, leveraged loans, and real estate.”