Big banks are trying again to satisfy the banking regulators, the Federal Reserve and the Federal Deposit Insurance Corp. (“FDIC”). This is being done to ensure that the banks can easily be navigated through bankruptcy proceedings, without destabilizing the country’s financial stability at the time of crisis. Banks submitted their updated ‘Living Wills’ last week before the Oct 1 deadline.
Revised ‘Living Wills’ in Brief
This time, stakes are high for JPMorgan Chase &Co. (JPM - Free Report) , Bank of America Corp. (BAC - Free Report) , The Bank of New York Mellon Corp. (BK - Free Report) , Wells Fargo & Company (WFC - Free Report) and State Street Corp. (STT - Free Report) . This is because the regulators in April had deemed their resolution plans “not credible or would not facilitate an orderly resolution under the U.S. Bankruptcy Code.”
Hence, in the documents, released on Tuesday, these five banks provided details regarding their plans designed to rectify problems identified by the regulators.
For instance, JPMorgan altered its business organization, creating a new “intermediate holding company” and has already started moving assets to it. The company says that the new entity will be “ready to make capital and liquidity contributions” to other divisions in case of failure. Also, the entity has contractual obligation to make sure that resources are directed at the right places, in case the company collapses.
Further, JPMorgan has identified 16 “objects of sale,” that can easily be sold off during a financial crisis. Moreover, the bank has "meaningfully simplified" the way it funds entities within the company.
Likewise, BofA said that it has already transferred its assets to a pre-existing intermediate company for same purpose as JPMorgan’s. Also, the company expanded its liquidity stress-testing methods to include the capability to project “forecasted liquidity needs” on a daily basis for each unit. Further, it has formed a new monitoring and reporting team as well as enterprise resolution execution office.
Similarly, Wells Fargo raised the number of employees dedicated to resolution planning. Also, the bank has appointed a senior executive to this office, who will be directly reporting to the chief financial officer. Further, similar to JPMorgan, the bank created a detailed report for potential “strategic sale transactions.”
Wells Fargo has also been “increasing both the liquid assets available to meet its needs in a time of stress and the amount of capital available to absorb potential losses.” Moreover, the company continues to eliminate “redundant, dormant or inactive” subsidiaries. Wells Fargo stated, “Eliminating redundant, dormant, or inactive subsidiaries helps reduce complexity and thereby improves both the ongoing operation and the resolvability of the company.”
On the other hand, Morgan Stanley (MS - Free Report) , The Goldman Sachs Group, Inc. (GS - Free Report) and Citigroup Inc. (C - Free Report) were able to satisfy the Fed and the FDIC, to some extent, with their resolution plans in April. Citigroup had received a passing grade by both regulators, despite requiring improvement in its ‘Living Will.’ However, Goldman and Morgan Stanley received passing grades from only one of the two agencies.
Notably, these three companies have also submitted their updated resolution plans. These plans highlight the moves designed by the banks to rectify their shortcomings, before the next annual submission on Jul 1, 2017.
Requirement of ‘Living Wills’
Under provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act, the banks (with total consolidated assets of $50 billion or more) are required to put forward a framework. This framework will be indicating the ways to liquidate, by breaking up and selling off assets, in case they are on the verge of collapse.
The main goal behind the submission of ‘Living Wills’ is to avoid re-run of the 2008 financial crisis, the period when Lehman Brothers Inc. went down. The ‘Living Wills’ will reduce the risks of further bailouts, if these banks sink in the event of another financial crisis.
A systemic resolution, maximizing the sale value of a failed bank and minimizing creditor losses, would help in efficient handling of bank failures. Moreover, the FDIC will have the power to liquidate a bank if its collapse knocks down the country’s financial stability. Also, ‘Living Wills’ are required to be submitted on an annual basis.
Can ‘Living Wills’ Serve Their Purpose?
The Fed and the FDIC will be reviewing ‘Living Wills’ of banks in the coming months, though there is no time frame provided for result declaration. Only time will tell whether banks have been able to satisfy the regulators this time around, by proving ‘Living Wills’ adequate for implementation.
In case, the regulatory authorities do not consider the above-mentioned rectifications adequate, the banks will have to face tougher capital requirements and restrictions on operations or activities. If, within two years, after the requirements are imposed, banks fail to remediate the problems, then the Fed and the FDIC can jointly require it to shed assets.
Though banks have revised their resolution plans to overcome the shortcomings pointed out by the Fed and the FDIC, it is a big question if ‘Living Wills’ will serve its purpose or not. Hypothetically, it is easy to say that resolution plans should be made in a way such that they would not adversely affect the overall financial system. However, in practice, it is difficult to mitigate the harm, as banks depend considerably on mutual businesses.
Nevertheless, we believe ‘Living Wills’ will help the regulators to wind up banks, in case of failures, to some extent. Most importantly, the advance precautions will surely entail into lesser involvement of taxpayers’ money for bailing out troubled financial institutions.
Of the eight stocks mentioned in the article, only JPMorgan, Morgan Stanley and State Street currently carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Zacks' Best Investment Ideas for Long-Term Profit
Today you can gain access to long-term trades with double and triple-digit profit potential rarely available to the public. Starting now, you can look inside our stocks under $10, home run and value stock portfolios, plus more. Want a peek at this private information? Click here >>