Bank Stock Roundup: Stress Test Results Bring Optimism, Citigroup Restructuring Continues

While pre-crisis mortgage issues prevailed, active restructuring activities and the 2014 Mid-Cycle Stress Test results were more prominent in the last five trading days. Citigroup Inc. (C) was in the limelight for its restructuring activities.

Further, optimism surrounded the industry as mid-cycle stress test results projected banks’ ability to cope with the most adverse economic scenarios.

On the other hand, the recent lawsuit related to the fraudulent sale of inferior mortgage bonds to Virginia Retirement Fund between 2004 and 2010 has increased legal hassles for banks. Nevertheless, the law-enforcement agencies are trying to resolve such issues in order to avoid lengthy litigations.

(Read last week’s developments: Bank Stock Round up for Sep 12, 2014)

Recap of the Week’s Most Important Developments:

1. Issues pertaining to the pre-crisis business conducts continue to trouble major global banks. Units of Citigroup, Deutsche Bank AG (DB), Bank of America Corp. (BAC), The Goldman Sachs Group Inc. (GS), Credit Suisse AG (CS), HSBC Holdings plc (HSBC), Morgan Stanley (MS) and JPMorgan Chase & Co. (JPM) were among the 13 banks sued by the state of Virginia. The complaint accused these banks of selling inferior mortgage bonds fraudulently to the state’s retirement fund between 2004 and 2010. The lawsuit was filed in January under the provisions of the Virginia Fraud Against Taxpayers Act by Texas-based financial modeling and analysis firm – Integra REC LLC, and was later joined by the state of Virginia. (Read more: 13 Major Global Banks Sued by Virginia for $1.15B)

2. In compliance with the regulations, Citigroup and several other Wall Street banking giants have released 2014 Mid-Cycle Stress Test results, projecting their ability to cope with the most adverse economic scenarios. Covered Companies rule, which has been issued by the Board of Governors of the Federal Reserve System (Federal Reserve), applies to large bank holding companies (BHCs). The rule has been issued for implementation of stress testing and disclosure requirements of the Dodd-Frank Wall Street Reform and Consumer Protection Act (:DFAST). As described in the rule, a stress test is “a process to assess the potential impact of scenarios on the consolidated earnings, losses, and capital of a company over the planning horizon, taking into account its current condition, risks, exposures, strategies and activities.”

Based on banks’ own models and assumptions about probable stressed scenarios, the banks conduct the test. However, the tests reflect banks’ views on their economic well-being and the associated risks that could impact their financial outlook. The latest stress test follows the Federal Reserve’s stress test round for 30 BHCs released in Mar 2014. (Read more: Citigroup Discloses 2014 Midyear Stress Test Results)

3. Citigroup and BofA will offer mortgage loans at a discounted rate to borrowers with blemished credit histories or low incomes. These two Wall Street majors, in association with the Neighborhood Assistance Corporation of America (:NACA), will assist struggling borrowers through a new loan program. Under this arrangement, Citigroup and BofA will offer discounts higher than what banks usually offer to flawless borrowers capable of making larger down payments. Notably, discounts are offered in a mortgage loan in case a borrower pays ‘mortgage points’ in the form of upfront fees. If a borrower pays a mortgage point (which is equal to 1% of the total loan amount taken), he/she gets a discount of 0.25% in the mortgage interest rate. However, under this new loan assistance program, Citigroup and BofA will offer a 0.5% discount for a single mortgage point. (Read more: Citi, BofA Plan Discount Mortgages for Tainted Borrowers)

4. Citigroup is planning to vend its profitable Diners Club card business in Japan with the sale of its retail banking operations. Sumitomo Mitsui Financial Group Inc. (SMFG), Mizuho Financial Group Inc. (MFG), Mitsubishi UFJ Financial Group Inc. (MTU), Sumitomo Mitsui Trust Holdings Inc. and Shinsei Bank Ltd. were the top bidders in the preliminary bidding operations for the sale of the retail unit. In furtherance of its strategy to shed international operations, Citigroup is eyeing the sale of its retail banking operations in Japan. The sale of the card business along with retail operations commensurate on the expectation of attracting the Japanese banks as Diners enjoys a strong brand value in Japan. Moreover, credit cards have solid growth potential in Japan. (Read more: Citigroup to Vend Diners Club Business with Retail Operations)

5. Citigroup’s consumer-lending business, OneMain Financial, is set to go public as the company is in the process of filing an initial public offering ('IPO') by the end of September. The company will also take into consideration offers from interested buyers for a possible sale of the unit, which is worth at least $4 billion. The latest revelation follows Citigroup CEO Michael Corbat’s announcement of the possible sale of this unit at an investor conference in May. Corbat revealed then that the company initiated the process and is weighing its options comprising selling the unit to a private equity firm, divesting it through public listing or a combination of both by the end of 2014 or early 2015. (Read more: Citi Readies to File OneMain Financial IPO by September End)

Price Performance

Overall, optimism prevailed with several steps taken by banks to drive growth and resolve legacy issues. Most of the banking stocks showed positive price movement.

In the last five trading sessions, Capital One Financial Corporation (COF) and Wells Fargo & Company (WFC) were the major gainers, with their share prices rising 3.4% and 3.0%, respectively.

Over the last six months, Capital One Financial and Wells Fargo were the top performers, with their shares gaining 14.6% and 11.6%, respectively. However, BofA witnessed a 0.5% price decline over the same time frame.

What Next in the Banking Universe?

Since no major development is expected next week, the performance of banking stocks should not change significantly.

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