U.S. gives capital-short big banks six months to raise funds
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Major banks that are judged too weak to cope with rising loan losses will get six months to raise fresh capital from private investors, before the Treasury will force them to take more government money.
That’s one of the details of the Obama administration’s new bank-aid plan, dubbed the Capital Assistance Program, or CAP, which the Treasury unveiled today. The program opens a new avenue for lenders to tap taxpayer funds to bolster their balance sheets.
Wall Street has been fearful that the administration was intent on taking control of some big banks that are struggling with loan losses, a move that could wipe out shareholders.
As previously announced, the Treasury will subject the 19 biggest banking firms to a ‘stress test’ to determine whether their capital cushions are adequate. The stress test is expected to be completed by the end of April. Key economic assumptions of the test are here.
If the government decides that a bank needs a bigger cushion, regulators will allow the bank first to seek that money from private investors. If that funding doesn’t materialize, the bank will have to take government funds in the form of preferred stock that will pay the Treasury a 9% dividend yield.
The banks also have the option of immediately tapping the CAP plan for funds.
A bank that issues preferred stock to the Treasury under the CAP plan would have the option of converting the shares to common stock. That would give Uncle Sam a direct voting stake in the bank, diluting current shareholders.
Some struggling banks may have little choice but to convert the government’s preferred stock to common shares, because doing so would beef up the capital measure that is the first line of defense against loan losses.
‘The purpose of the CAP is to restore confidence throughout the financial system that the nation’s largest banking institutions have a sufficient capital cushion against larger-than-expected future losses, should they occur due to a more severe economic environment,’ the Treasury said in its statement outlining the new program.
The Treasury stressed that ‘U.S. government ownership is not an objective of CAP. However, to the extent that significant government stake in a financial institution is an outcome of the program, the goal will be to keep the period of government ownership as temporary as possible and encourage the return of private capital to replace government investment.’
Bank stocks have rallied sharply since the Treasury plan was released at 11 a.m. PST. The BKX index of 24 big bank shares was up 6.7% at about 12:25 p.m. PST, after falling as much as 7.5% early today.
UPDATE at 1:10 p.m.: The BKX pulled back near the end of trading to close with a gain of 2.4%. Among the biggest banks, shares of Bank of America Corp., JPMorgan Chase & Co. and Wells Fargo & Co. all closed higher, while Citigroup eased.
-- Tom Petruno