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More banks ace stress tests

By Claes Bell, CFA · Bankrate.com
Friday, March 8, 2013
Posted: 5 pm ET

The Federal Reserve on Friday released the results of a bank stress test that shows 17 out 18 of the largest banks could safely weather another deep recession.

The lone bank to fail the test was Ally Financial, which would have seen the percentage of tier 1 capital, which is Fed-speak for cash and other liquid assets, fall to 1.5 percent in the test scenario.

"We're pleased that an overwhelming majority of institutions once again passed these tests with flying colors," Frank Keating, president and CEO of the American Bankers Association, said in a statement. "These results, achieved in the face of extreme assumptions and highly pessimistic scenarios, are further proof that the banking industry has rapidly regained its health and is strong enough to withstand even the most challenging economic circumstances. Capital levels are 25 percent higher than they were just five years ago, and total industry capital now stands at $1.6 trillion."

Overall, the results were an improvement over the last round of tests conducted in 2012, when four banks failed the stress tests: Citigroup, SunTrust, Ally Financial and Metlife. Since that time, banks have squirreled away more capital and one large bank holding company, MetLife, has left the banking market altogether.

The tests themselves are pretty stringent. They put the banks up against a grim economic scenario that includes a nearly 5 percent drop in the overall U.S. economy, an unemployment rate that quickly rises to 12 percent and a sudden 50 percent drop in the stock market.

"The purpose of stress tests is to see if banks are adequately capitalized for unexpected losses due to credit, market and operational risks," says Mayra Valladares, managing partner at MRV Associates. "When we talk about stresses, it's those extreme events."

The biggest blind spot in the tests may be that regulators don't test banks against a scenario where there's some kind of fraud or malfeasance on the part of management, an all-too-common occurrence in the years leading up to the financial crisis, Valladares says.

Still, large-bank customers generally can feel a little more comfortable that they won't be unceremoniously shunted over to an acquiring bank the way Wachovia customers were in 2008.

"The stress tests, if you believe in their validity, what they tell you is that these banks are prepared. They're not going to go under. You're not going to be waiting around to see when the FDIC pays you your deposit," Valladares says, referring to the Federal Deposit Insurance Corp.

The results are also good news for large-bank customers who have the dangerous habit of keeping more than the FDIC insurance limit of $250,000 in a checking, savings or CD account, Valladares says. They can feel a little more assured that an unexpected economic downturn won't sweep away their bank and put them in line with the rest of a bank's creditors to recover their funds.

Are you a customer of a big bank? Are you relieved that your bank passed its stress test or worried, if it didn't?

Follow me on Twitter: @ClaesBell

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