Morgan Stanley Must Resubmit Capital Plan for Fed Stress Test

The bank, like Citigroup, has paid penny and nickel dividends every quarter since the process began — a fraction of what both firms doled out before the financial crisis.

Bank of America and Citigroup both passed the tests handily, with their common equity Tier 1 ratios remaining well above the 4.5 percent regulatory minimum even after distributing capital to shareholders. Bank of America's figure dipped to 7.1 percent under a hypothetical economic shock, while Citigroup's fell to 7.7 percent, according to the Fed.

Bank of America boosted its quarterly dividend 50 percent to 7.5 cents, short of the 10-cent estimate, and said it will buy back as much as $5 billion of stock. The shares rose 1.8 percent in extended trading.

"BofA was positive, certainly, but as a somewhat disappointed shareholder, I'd like it a whole lot better if it had gone to 10 cents a quarter rather than 7.5," said Nancy Bush, an analyst who founded NAB Research LLC in New Jersey. "They're trying to please all constituencies."

Tough Scenarios

The Fed's scenarios were seen as especially tough this year as they called for banks to assume — in the most severe case — that U.S. unemployment doubled to 10 percent while the markets tumbled and Treasury yields went negative. The banks would have experienced resulting loan losses of $385 billion, the Fed said last week.

In a lesser "adverse" event, the banks contemplated a minor U.S. recession and mild deflation, while a third was a baseline that tracked the average projections of economists. The scenarios also included some extra hardships for big trading firms, such as Morgan Stanley and Goldman Sachs Group Inc., as they had to assume market shocks and trading-partner woes on top of the other troubles.

Foreign lenders with large U.S. operations also are subject to the Fed's test. Examiners credited Deutsche Bank Trust Corp. and Santander Holdings USA Inc. with making improvements this year after rejecting their submissions in 2015, but said the assumptions and analyses behind their plans still aren't "reasonable or appropriate." The regulator listed deficiencies at both businesses, including in risk management.

"The capital adequacy of Deutsche Bank Trust Corp. has never been in doubt," Bill Woodley, deputy chief of the German lender's Americas business, said in a statement. "We appreciate the Federal Reserve's recognition of our progress, and we will implement the lessons learned this year in order to strengthen our capital planning process."

This year's review also raised concerns among examiners that the biggest banks need to bolster auditing systems that identify weaknesses in capital planning. The Fed plans to conduct a more thorough review of those operations in the months ahead.

"Buried in the fine print, they are saying there is still more work to be done," Michael Alix, a partner at PwC and a former senior official at the Federal Reserve Bank of New York, said in an interview. "They don't want them missing the forest for the trees."

Next year's tests may be even tougher. Fed Chair Janet Yellen said in congressional testimony this month that the stress-test process is about to undergo "meaningful changes." She underlined plans recently announced by Fed Governor Daniel Tarullo that would impose a higher capital target on eight of the largest firms, while giving mid-size banks a break from certain assessments of whether lenders adequately track their market risks.