Trump delivers more bank dividends
If Trump is crafting a name for himself for anything beyond that for which his reputation already precedes him, it is the complete rejection of dogma. He is literally turning established orthodoxy on its head and it looks like a letter written just over a week ago by U.S. Congressman Patrick McHenry, who serves on the House Financial Services Committee, to Fed Chair Janet Yellen may even turn Australian banks on their heads, emptying them of all their franking credits and returning much more capital back to shareholders.
Quoting from the letter penned on January 31st, 2017;
“Agreements like the Basel III Accords were negotiated and agreed to by the Federal Reserve with little notice to the American public, and were the result of an opaque, decision-making process. The international standard were then turned into domestic regulations that forced American firms of various sizes to substantially raise their capital requirements, leading to slower economic growth here in America.
“It is incumbent upon all regulators to support the U.S. economy, and scrutinize international agreements that are killing American jobs. Accordingly, the Federal Reserve must cease all attempts to negotiate binding standards burdening American business until President Trump has had an opportunity to nominate and appoint officials that prioritize America’s best interests.”
Almost a year ago , on March 28, 2016, a Bloomberg article by By Christopher Langner entitled “The Next Perfect Banking Storm” warned that the new Basel rules “aimed at reducing the leeway banks currently enjoy on how they account for risk will come into effect over the next two years.”
“According to the proposed rules, companies that have higher revenues and lower leverage will require less capital from banks, meaning banks will have an incentive to lend only to the biggest corporates with more established businesses. Good luck to smaller enterprises needing funds to increase sales. Before that rule comes into force, however, the leverage ratio takes effect on Jan. 1, 2018. From then, banks will be required to limit how much their balance sheet is leveraged overall, effectively putting a hard cap on loan growth.”
“It’s increasingly difficult for banks to help spur global expansion, no matter how low — or negative — benchmark rates are. But it’s about to get a lot tougher. Banks will tighten their belts and as they deleverage, so will the world. That means more bankruptcies, lay-offs and fewer jobs, which sounds very much like a recipe for a global crisis.”
You can read the entire article here: https://www.bloomberg.com/gadfly/articles/2016-03-28/the-next-perfect-banking-storm
According to some analysts and commentators McHenry’s letter raises the possibility that the U.S. will drop out of the Basel Accords.
John Authers of the Financial Times wrote last weekend: “a withdrawal by the U.S. would effectively mean the end of Basel for the rest of the world.”
For US banks it means, the combination of changes to the Dodd-Frank Act and appointment
of regulators that are more friendly to the banking sector—and unencumbered by international banking regulations—could ultimately allow the six largest banks to return over $100 billion of capital to investors, through dividends and share repurchases.
Those who have supported the requirement for banks to hold more capital including Australian regulators argue that banks need even higher buffers to truly dispel the notion that they are too big to fail.
Of course investors, including us, point out that while the population is better off in a society with safe banks, the additional capital, along with annual stress tests, acts like a handbrake on returns on equity and growth prospects. It’s one reason we have been underweight banks.
In the US, there is also talk of the possible elimination of the Department of Labor’s “fiduciary rule,” as it is now “under review”. The fiduciary Rule puts a higher burden on financial advisers to act in the ‘best interest’ of clients or risk litigation. As a result, many simply opted to direct their clients towards lower cost, passively managed investment products.
Perhaps the tidal wave of demand for index funds slows under Trump.
Finally, there’s talk the “Volcker rule,” limiting banks’ proprietary trading activities, will be amended or perhaps eliminated.
There hasn’t been a great deal of focus on how Trump might change the landscape of the financial services or what the implications might be for investors but it is becoming cler that Trump is shifting the goalposts of regulation from “a punitive focus with anti-business effects to a more traditionally conservative agenda focused on growth and jobs.”
An important point made by one US analyst is “that a lack of liquidity, not capital, was the proximate cause of the catastrophe. Yet since 2008, regulators and policymakers have focused on increased capital for banks and restrictions on risk taking as a general panacea
for preventing a future crisis. Many of these requirements have been accompanied by regulatory requirements such as those of the Volcker Rule and the FSOC SIFI [Systemically Important Financial Institution] designation that, in our view, fail to address the problems that spawned them.”
If Trump loosens the shackles of bank regulation, expect a return to the bad old days of ‘profit before care’, a rally in financial stocks, followed by a more ominous fallout.
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
Jason Horne
:
Profit before care is not the bad old days it is now…. May have been worse then, but lets not kid ourselves.
Roger Montgomery
:
agree entirely, hence the comment.
James Cork
:
“…a lack of liquidity, not capital, was the proximate cause of the catastrophe.”
That has to be one of the more stunningly revisionist, backward comments i’ve read about the financial crisis. Banks have always been, and always will be, susceptible to perceptions of lacking liquidity since their fundamental business model is to borrow short and lend/invest long. Having sufficient capital buffers has, for decades, been the primary tool regulators have used to ameliorate this problem. As in 2008, pretty much every banking crisis i’m aware of has always ignited once lenders to the banks perceive that they may suffer capital impairment BECAUSE there’s an insufficient capital buffer held by the bank; this perceived (or real) lack of capital buffer, in turn, leads to a liquidity crisis when the entire short-term liability side of the bank asks for its money back simultaneously. This is not a chicken-and-egg riddle: bank liquidity always disappears BECAUSE there is insufficient capital, and not the other way around.
Please let me know which US analyst wrote that comment so i can make a mental note to ignore that person.
Roger Montgomery
:
Hi James, Obviously not prudent to put a name to it here! Feel free to call me though and I can send a link.