2023 Fed Stress Test

Last week I had the pleasure of seeing the results of the Federal Reserve’s annual stress test of 23 of the nation’s largest banks. Every bank survived the most adverse scenarios with capital levels above the regulatory minimum of 4.5%, with Fed Vice Chairman Michael S. Barr stating, “Today’s results confirm that the banking system remains strong and resilient.”

A year ago, the Fed hypothetically tightened 33 banks and experienced a severe global recession accompanied by a period of increasing stress in the commercial real estate and corporate debt markets. But even while last year’s test included countercyclical shocks, it failed to predict that the decline in bond prices caused by the Fed’s rate hikes might contribute to the fear-driven bank runs that occurred in March.

As such, Mr. Barr was quick to add, “At the same time, this stress test is only one way to measure that strength. We must remain humble about how risks arise and continue our work to ensure banks can withstand a range of economic scenarios, market shocks and stresses.” the other.”

This year’s stress test looked particularly severe, including a severe global recession with a 40% drop in commercial real estate prices, a huge increase in office vacancies, and a 38% drop in housing prices. It also included a rise in the unemployment rate by 6.4 percentage points to a peak of 10% and economic output falling proportionately.

As the Fed concluded, “All 23 banks tested remained above minimum capital requirements during the hypothetical recession, despite projected total losses of $541 billion. Under pressure, the overall percentage of outstanding capital is expected to decline.” On common stock risk – which provides a buffer against losses – by 2.3 percentage points to a minimum of 10.1 percent.

regional banking authority

PNC is one of the largest diversified financial services organizations in the United States. The Pittsburgh-based lender has historically managed risk well and now boasts a widely diversified loan history, strong capital ratios, and solid credit quality.

The company is widely respected by regulators as evidenced by its stress test results. PNC stated this week, “Based on PNC’s strong results, PNC’s calculated buffer of capital stress (SCB) for the four quarters beginning October 1, 2023 is below the 2.5% regulatory minimum and minimum SCB amount, resulting in SCB created at 2.5% floor This is down from 2.9% SCB effective through September 30, 2023. PNC’s Common Equity Tier 1 (CET1) rate exceeds regulatory minimum (4.5%) plus SCB, reflecting capital levels Our strong.”

As a result, the company boosted its quarterly dividend by 3%, pushing the yield up to 5%. CEO William S. Demchak said, “The increase in our profits reflects the continued strength of our capital and liquidity levels, and the confidence of our Board of Directors in our strategy and outlook.”

PNC will also continue its share repurchase program, albeit at a reduced pace in the current quarter. However, a significant portion of the 100 million share repurchase license is still available.

net interest income

Several regional banks have recently guided net interest income down double digits on a quarterly basis, including PNC. However, the expected decline in PNC in the 2% to 4% range is a relatively modest decline.

Commercial real estate accounts for 11.0% of total PNC loans, with the office category of most concern being geographically diverse and accounting for 2.7% of total loans. CFO Robert Riley said at a conference in April that PNC’s office portfolio “originated with an approximate 55% to 60% loan and the vast majority of these properties are Class A designated.”

Of course, the bank hasn’t been immune from a downturn in fee-based businesses like equity and mortgage capital markets. But these sectors can start to turn around (capital markets at least), while the more than 20% decline per share this year includes a huge share of bad news in my opinion. I believe a quality bank like PNC will provide nice rewards in the long run for those who are willing to endure a bumpy ride along the way.