Big Banks' Dividends at Risk If Economy Sputters

Another economic tailspin could force nearly 80% of the largest U.S. banks to suspend dividends.

Preliminary stress testing by Invictus Consulting Group determined that only eight of the nation's 38 biggest banks would be able to pay dividends in an "adverse" economy where unemployment rises to 10%. The New York group issued a report on its findings Thursday.

Invictus evaluated the banks under three economic scenarios: static, adverse and severely adverse. Only one bank would be able to pay dividends during a severely adverse economy that would involve a prolonged recession. The potential for dividend cutbacks is important because "a lot of stock value and the ability for a bank to tap the capital markets is tied to their dividend policy," Kamal Mustafa, the chairman and chief executive of Invictus, said in an interview.

Invictus also looked at strategies that banks are implementing to position themselves for improved earnings, loan growth and stronger capital. The results found that roughly a third of the banks would run into limitations with their "strategic alternatives" based on capital levels and asset efficiency under stress testing.

"Most banks should have done quick stress tests" to make "sure any business plans they implement today does not, in a sense, run a foul because that's going to cost them a lot," Mustafa said.

Invictus also looked at how many banks would fall into unconstrained, constrained or unsustainable capital adequacy after being stress tested. The good news was that none of the large banks were labeled "unsustainable." But six banks fell into "constrained," meaning that the bank could maintain regulatory required capital levels "at some point" but not throughout the entire period.

This is the first report Invictus has publically released, though the firm has been internally stress testing more than 7,000 banks nationwide in recent years. The first report reviewed bank financials dating as far back as 40 quarters but removed two large banks for inconsistent reporting. Mustafa said his firm plans to issue more comprehensive reports each quarter to encourage all banks to perform proactive stress testing.

"All banks should start stress testing themselves now to make sure . . . they can build a business strategy that will not be disruptive all the way through" various cycles, Mustafa said. "Because when the regulators come calling and lay out restrictions on capital actions, banks will have very little time to make corrective measures."