For the banks scrutinized, the government's stress tests may amount to a "get out of jail free" card that is not available to other banking companies.
In an exhaustive analysis released this month, the government announced specific maximum loan-loss prospects for each of the 19 tested banks in 2009 and 2010, as a way of assessing just how much capital the banks should have no later than Nov. 8.
Now, armed with dollar benchmarks in black-and-white, investors and analysts are unlikely to react when these banks report credit losses — as long as they stay within the government's worst-case scenarios.
In effect, the losses have the government's blessing, giving the stress-tested banks a leg up on institutions whose loan-loss potential was not vetted and is thus uncertain, observers say.
"It gives everybody a sense of security, rightly or wrongly," said Matthew Schultheis, a senior bank analyst at Boenning & Scattergood Inc.
Concern over credit quality "is going to ease in the near term," said Kevin Fitzsimmons, an analyst at Sandler O'Neill & Partners LP.
Schultheis said that investors, for the most part, will "turn a little bit more of a blind eye" to the tested banks' loan losses this year and next, so long as the losses do not approach the severe estimates laid out in the Federal Reserve's Supervisory Capital Assessment Program.
The stress-tested banks appear to be off to a good start on the loan-loss front when compared with the government's worst-case projections.
KeyCorp, for instance, charged off $492 million of loans in the first quarter, or 2.65% of average loans.
The stress test had the Cleveland banking company losing up to $6.7 billion — or 8.9% of average loans at March 31 — during the next two years under the most adverse economic conditions.
"For KeyCorp to really startle people, they would have to charge off more than the stress test suggested," said Gerard Cassidy, an analyst at Royal Bank of Canada's RBC Capital Markets.
"The credit concerns of the group of 19 are going to be different now than for the nonstressed banks," he said.
Fifth Third Bancorp charged off 2.37% of average loans on an annual basis in the first quarter. The stress test had put its most severe losses at the equivalent of 10.9% of its average loan portfolio at March 31.
PNC Financial Services Group Inc. charged off 1.01% of total loans in the first quarter, and U.S. Bancorp, 1.72%.
The stress test projected these companies losing as much 11% and 8.7% of loans, respectively, through 2010 under the worst economic conditions.
Schultheis said the stress-tested banking companies' shares should have "a little bit of a floor" under them now, as investors become less concerned about how their credit quality will hurt book values. The main focus for the stress-tested banks will be their earnings power, he said.
Kevin Petrasic, an associate in the corporate department of the Paul, Hastings, Janofsky & Walker LLP law firm, said even companies that "failed" the stress test could have an advantage over banks that were not tested.
This is because companies that were deemed to need more capital, such as KeyCorp, SunTrust Banks Inc. and Citigroup Inc., can now show how they will meet the government's guidelines as they reach out to new investors. People will also be paying attention to their moves.
"Coming out of the stress test, they can essentially tailor their operating strategy and investor outreach strategy as to how they are taking steps to address their deficiencies," he said.
To be sure, he said, the stress tests' loan-loss maximums have a big potential downside.
Investors will be unforgiving should any company's loan losses exceed the government estimates. And the losses do not have to be in aggregate at each bank; the stress tests projected losses by loan portfolio. Even if overall numbers are good, these companies could face harsh scrutiny should losses go higher than expected in credit cards or commercial real estate, he said.
Still, said Cassidy, the economy has a way to decline before the banking companies brush up against the government's worst-case projections.
The test's most adverse conditions projected home prices falling 22% in 2009 and 7% in 2010 and the unemployment rate reaching 8.9% in 2009 and 10.3% in 2010.
The 10-city S&P/Case-Shiller composite home price index fell 19.2% in the 4th quarter compared with a year earlier. The seasonally adjusted unemployment rate was 8.9% this April.
"The loss assumptions in the stress test were so aggressive and so draconian — the only way that happens is if we go into a depression," Cassidy said. "The probability of that is very, very low."