At least six of the 19 largest U.S. banks require additional capital, according to preliminary results of government stress tests, people briefed on the matter said.
While some of the lenders may need extra cash injections from the government, most of the capital is likely to come from converting preferred shares to common equity, the people said. The Federal Reserve is now hearing appeals from banks, including Citigroup and Bank of America, that regulators have determined need more of a cushion against losses, they added.
By pushing conversions, rather than federal assistance, the government would allow banks to shore themselves up without the political taint that has soured both Wall Street and Congress on the bailouts. The risk is that, along with diluting existing shareholders, the government action won’t seem strong enough.
Can the government deliver more aid?
"The challenge that policy makers will confront is that more will be needed and it’s not clear they have the resources currently in place or the political capability to deliver more," said David Greenlaw, the chief financial economist at Morgan Stanley, one of the 19 banks that are being tested.
Final results of the tests are due to be released next week. The banking agencies overseeing the reviews and the Treasury are still debating how much of the information to disclose. Fed Chairman Ben S. Bernanke, Treasury Secretary Timothy Geithner and other regulators are scheduled to meet this week to discuss the tests.
Geithner has said that banks can add capital by a variety of ways, including converting government-held preferred shares dating from capital injections made last year, raising private funds or getting more taxpayer cash. With regulators putting an emphasis on common equity in their stress tests, converting privately held preferred shares is another option.
Firms that receive exceptional assistance could face stiffer government controls, including the firing of executives or board members, the Treasury chief has warned.
Yesterday, Kenneth Lewis, chief executive officer of Bank of America, was to face a shareholder vote on whether he should be re-elected as the company’s chairman of the board. While Lewis has been at the helm, the bank has received $45 billion in government aid.
Lewis said earlier this month that the firm "absolutely" doesn’t need more capital, while adding that the decision on whether to convert the U.S.’s previous investments into common equity is "now out of our hands." Citigroup, in a statement, said the bank’s "regulatory capital base is strong, and we have previously announced our intention to conduct an exchange offer that will significantly improve our tangible common ratios."
Along with Bank of America and Citigroup, some regional banks are likely to need additional capital, analysts have said.
SunTrust Banks, KeyCorp, and Regions Financial Corp. are the banks that are most likely to require additional capital, according to an April 24 analysis by Morgan Stanley.
By taking the less onerous path of converting preferred shares, the Treasury is husbanding the diminishing resources from the $700 billion bailout passed by Congress last October.
"Does that indicate that’s what the regulators actually believe, or is it that they felt politically constrained from doing much more than that?" said Douglas Elliott, a former investment banker who is now a fellow at the Brookings Institution in Washington.
Lawmakers strictly against additional funds
Geithner said April 21 that $109.6 billion of TARP funds remain, or $134.6 billion including expected repayments in the coming year. Lawmakers have warned repeatedly not to expect approval of any request for additional money. Some forecasts predict much greater losses are still on the horizon for the financial system. The International Monetary Fund calculates global losses tied to bad loans and securitized assets may reach $4.1 trillion next year.
Geithner has said repeatedly that the "vast majority" of U.S. banks have more capital than regulatory guidelines indicate. The stress tests are designed to ensure that firms have enough reserves to weather a deeper economic downturn and sustain lending to consumers and businesses.