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Federal Reserve Announces New Bailout Prevention Rule
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The Federal Reserve Board has adopted a final rule to prevent any future government bailouts of major U.S. banks by using tax-payers money.
Per the rule, which includes aspects from, but is not limited to the one proposed in Oct 2015, domestic banks deemed as global systematically important banks (GSIB) as well as foreign GSIBs operating within the U.S. will need to meet a long-term debt requirement (proposed earlier) and a new total loss-absorbing capacity (TLAC) requirement.
Accordingly, these banks are required to issue long-term debt that can be converted into equity in the event of a failure, and build new cushions against losses. This would help infuse the capital required to support critical operations during a crisis. The idea behind this is that the costs of a huge bank's failure should fall on the bank’s investors, and not on the taxpayers.
Daniel Tarullo, the Fed governor said, "Investors holding this debt will be motivated to monitor the bank more closely precisely because they would stand to be converted into equity holders if the firm failed."
The Board’s chairperson, Janet L. Yellen said, "The rule is guided by common sense principles: bank shareholders and debt investors should place their own money at risk so depositors and taxpayers are well protected, and the biggest banks must bear the costs that come with their size."
Notably, the additional TLAC requirement has been imposed on eight of the biggest U.S. banks namely Citigroup Inc. (C - Free Report) , JPMorgan Chase & Co. (JPM - Free Report) , Wells Fargo & Company (WFC - Free Report) , Bank of America Corporation (BAC - Free Report) , Morgan Stanley (MS - Free Report) , State Street Corporation (STT - Free Report) , The Goldman Sachs Group, Inc. (GS - Free Report) and The Bank of New York Mellon Corporation (BK - Free Report) .
The Fed staff estimated that these banks will need to issue about $70 billion in new equity and long-term debt to meet the requirements, down from $120 billion proposed earlier. However, four banks out of the eight are likely to have shortfalls.
In addition, the parent holding company of a domestic GSIB will have to avoid entering into certain financial arrangements that would create obstacles to an orderly resolution, in order to comply with the new rule.
The Board has made some of the notable changes to the proposed rule, after considering various comments on the same. These include allowing long-term debt issued on or before Dec 31, 2016, to be counted as a firm's long-term debt requirement under the rule, provided the debt issued after that date fully complies with the new rule. Also, though foreign firms' U.S. operations are generally required to issue long-term debt to their foreign parent, the U.S. operations of certain foreign firms will be permitted to issue long-term debt to external parties as well.
It is expected that the new rule will come into effect from Jan 1, 2019.
Of the banks mentioned above, BNY Mellon and Goldman Sachs carry a Zacks Rank #2 (Buy) whereas Bank of America and Morgan Stanley sport a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.
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Federal Reserve Announces New Bailout Prevention Rule
The Federal Reserve Board has adopted a final rule to prevent any future government bailouts of major U.S. banks by using tax-payers money.
Per the rule, which includes aspects from, but is not limited to the one proposed in Oct 2015, domestic banks deemed as global systematically important banks (GSIB) as well as foreign GSIBs operating within the U.S. will need to meet a long-term debt requirement (proposed earlier) and a new total loss-absorbing capacity (TLAC) requirement.
Accordingly, these banks are required to issue long-term debt that can be converted into equity in the event of a failure, and build new cushions against losses. This would help infuse the capital required to support critical operations during a crisis. The idea behind this is that the costs of a huge bank's failure should fall on the bank’s investors, and not on the taxpayers.
Daniel Tarullo, the Fed governor said, "Investors holding this debt will be motivated to monitor the bank more closely precisely because they would stand to be converted into equity holders if the firm failed."
The Board’s chairperson, Janet L. Yellen said, "The rule is guided by common sense principles: bank shareholders and debt investors should place their own money at risk so depositors and taxpayers are well protected, and the biggest banks must bear the costs that come with their size."
Notably, the additional TLAC requirement has been imposed on eight of the biggest U.S. banks namely Citigroup Inc. (C - Free Report) , JPMorgan Chase & Co. (JPM - Free Report) , Wells Fargo & Company (WFC - Free Report) , Bank of America Corporation (BAC - Free Report) , Morgan Stanley (MS - Free Report) , State Street Corporation (STT - Free Report) , The Goldman Sachs Group, Inc. (GS - Free Report) and The Bank of New York Mellon Corporation (BK - Free Report) .
The Fed staff estimated that these banks will need to issue about $70 billion in new equity and long-term debt to meet the requirements, down from $120 billion proposed earlier. However, four banks out of the eight are likely to have shortfalls.
In addition, the parent holding company of a domestic GSIB will have to avoid entering into certain financial arrangements that would create obstacles to an orderly resolution, in order to comply with the new rule.
The Board has made some of the notable changes to the proposed rule, after considering various comments on the same. These include allowing long-term debt issued on or before Dec 31, 2016, to be counted as a firm's long-term debt requirement under the rule, provided the debt issued after that date fully complies with the new rule. Also, though foreign firms' U.S. operations are generally required to issue long-term debt to their foreign parent, the U.S. operations of certain foreign firms will be permitted to issue long-term debt to external parties as well.
It is expected that the new rule will come into effect from Jan 1, 2019.
Of the banks mentioned above, BNY Mellon and Goldman Sachs carry a Zacks Rank #2 (Buy) whereas Bank of America and Morgan Stanley sport a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.
Where Do Zacks' Investment Ideas Come From?
You are welcome to download the full, up-to-the-minute list of 220 Zacks Rank #1 "Strong Buy" stocks free of charge. There is no better place to start your own stock search. Plus you can access the full list of must-avoid Zacks Rank #5 "Strong Sells" and other private research. See the stocks free >>.