In what could herald a major shift in the way big banks manage their capital, the top 25 sharply curtailed stock buybacks in the second quarter.
Repurchases of their own shares by the biggest banks, which hit $11.5 billion in the first quarter, fell to $7.5 billion in the second and are likely to slide to about $5 billion this quarter, according to Keefe, Bruyette & Woods Inc.
Buybacks have helped banks lift earnings per share without taking on credit risk and have been a significant factor in the bull market for bank stocks during the past two years.
The falloff suggests that share prices have risen enough to make further repurchases less attractive and that some banks soon will pump more money into the economy in the form of loans.
"If a bank is able to renew demand on its loan and asset growth-which we see with some banks-that will create demand for capital, which means less for buybacks," said Thomas Theurkauf, a Keefe analyst.
Starting last fall, heavy issuance of new tax-advantaged debt instruments known as trust-preferred securities gave banks billions of dollars more to invest in their own shares, accelerating the buyback trend through the early months of this year.
Among the top 25 banks, NationsBank Corp. was the most active purchaser of its own stock in the first half, buying back $5.1 billion.
Rounding out the top five were Chase Manhattan Corp., which repurchased $1.25 billion; Citicorp ($1.225 billion); Wells Fargo & Co. ($1.05 billion); and BankAmerica ($950 million.)
Equity analysts have applauded repurchase programs as a safe way to deploy excess capital. But they said now may be a good time for banks to shift to a more traditional way of generating returns to shareholders.
"You are getting less bang for your buck with buybacks than you did two years ago, when stock prices were lower," said analyst Marni Pont of Keefe. "You wouldn't want an industry that has so few growth prospects that it has nothing better to do than buy back stock."
The decline in buybacks "is not necessarily a bad thing," she added. "It means that we are getting a mix of growth and capital management."
Citicorp's risk assets-which include items ranging from Treasury securities to loans -have stabilized, Ms. Pont said. The bank "has been lowering its risk assets, but it looks like that reduction has stopped, which means they need more capital for that, and less for their buyback program."
As a result, she expects Citicorp to repurchase 100 million fewer shares in the third quarter.
Mr. Theurkauf said Wells Fargo has no choice but to lighten its buyback activity in the third quarter.
"Wells Fargo wrote the book on buybacks," but put more capital into the effort than the bank could generate, Mr. Theurkauf said. "They were extinguishing their net capital, meaning they are seeing a net reduction in their regulatory capital."
Mr. Theurkauf said return on equity has increased across the board for banking companies, which means higher capital generation -and hence more capital for buybacks or other investment.
He said he expects some banks-particularly those in Western states-to build assets in the third quarter.
David S. Berry, Keefe's vice president and director of research, said NationsBank accounted for a big portion of share repurchase activity in the first quarter, buying back $3.3 billion worth as a result of its purchase of Boatmen's. First Chicago NBD and First Union Corp. also made acquisition-related share repurchases.
Mr. Berry said the downturn in buybacks is tied to the decline in trust- preferred securities-a newfangled financial instrument that enables banks to raise regulatory capital cheaply.
"A lot of banks have taken trust-preferred securities and used them to retire common stock, so there is a bubble in the first quarter," Mr. Berry said. "Some equity purists are saying that you degrade the capital by doing this but the securities have 30-year maturities, which makes them very much like equity."
Buyback activity for smaller banks appears to be holding steady.
"Buyback programs among smaller banks and thrifts are not increasing, but they are not slowing down, " said Ben Plotkin, president of corporate finance at Ryan Beck & Co., New Jersey. "The stock prices of smaller banks are not at the same lofty levels as the bigger banks'."
Mr. Plotkin said small financial institutions-especially mutual savings and loans that recently converted-will continue to repurchase shares as a result of having too much capital.
"We tell our clients that it makes sense to be a buyer of your own stock as long as it is earnings-accretive," he said.
Mr. Theurkauf and others say that buybacks have been positive for the industry.
"Banks have rebalanced their balance sheets away from common equity to trust-preferred which costs much less," said Mr. Theurkauf. "It's a one- time thing, and we think that it's smart."
Although most analysts applaud the buyback programs, there are those who think their is decline is long overdue.
"Buying back shares makes perfect sense from an equity point of view, but it is less favorable from the bondholder's point of view," said Stanley T. August, head of corporate bond research at First Union Securities Corp. Banks that have bought back shares with the proceeds of trust-preferred offerings "are substituting a weaker form of capital for pure capital."