The Federal Reserve approved new rules mandating U.S. banks to finance their operations with more equity, in addition to forcing compliance to tougher capital requirements. The new Basel regulations announced by the Fed will force banks to set aside more capital.
The FED agreed Tuesday new arrangements mandating U.S. banks to maintain common equity, representing shares plus retained earnings equal to 7 percent of risk-weighted assets. Besides the U.S. banks will be required to hold a higher leverage ratio of 3 percent of all assets without adjusting for risk.
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Reprieve For Smaller Banks
Small and mid-size banks got a reprieve from the regulators after they waged a lobbying campaign targeting both regulators and law makers. The smaller banks have lobbied for exemptions as they didn’t cause markets to seize.
The Federal Reserve also dropped a provision from an earlier draft that required banks to hold higher amounts of capital for mortgage loans judged to be risky. The change was made after the housing industry and smaller community banks argued against this rule. They objected because they said it would restrict mortgage loans at a time when the housing industry was still struggling to recover.
The proposals are aimed at the eight top banks tagged as ‘systemically important’. The list includes Goldman Sachs Group Inc (NYSE:GS) and JPMorgan Chase & Co. (NYSE:JPM). The recent action answers many of the questions posed by critics that the FED doesn’t do much to rein in ‘too big to fail’ banks.
Basel III Rules Positive For Regionals
Goldman Sachs Group Inc (NYSE:GS) in its today’s equity research report feels the FED’s recent rules should translate into 70 bp of capital relief for regional banks. However for large-cap banks, the analysts don’t expect much clarity before July 9 as there is continued uncertainty around the key issue of the leverage ratio.
FED’s Action To Use Basel I Risk Weightings
Richard Ramsden and team feel the FED’s action to use Basel I risk weightings for residential mortgages and home equity loans would offer 50 bp of capital relief to the group, with major gains favoring First Republic Bank (NYSE:FRC), First Horizon National Corporation (NYSE:FHN), Bank of America Corp (NYSE:BAC), SunTrust Banks, Inc. (NYSE:STI) and KeyCorp (NYSE:KEY).
On the supplementary leverage ratio applicable to large-cap banks, the analysts feel investors have to wait till July 9 for clarity when FDIC is expected to meet.
As the next step, the FDIC will publish next week the more demanding leverage ratio, which could be as high as 6 percent.
The rules will be phased in, beginning in 2014 for large banks and 2015 for smaller ones.