Bank of America, Citigroup Brace for Stress-Test Results

There is a $24 billion reason why Bank of America Corp. and Citigroup Inc. shareholders should care about looming bank stress tests.

That is the additional money combined the two banks theoretically could have returned to shareholders over the past three years if their levels of dividends and share buybacks were similar to those of Wells Fargo & Co., according to Wall Street Journal calculations. That they weren't is partly due to the annual stress tests administered by the Federal Reserve. Bank of America and Citigroup have each stumbled on these in recent years.

For an investor with 1,000 Bank of America shares, that could have translated to nearly $500 in dividend payments last year versus an actual $200. A Citigroup investor with the same number of shares might have gotten more than $1,900 versus $160.

The Fed will release the first round of this year's stress-test results this Thursday. These will show how capital at 33 banks held up in severe market and economic conditions. The following week, banks will find out whether the Fed has approved their capital-return plans.

To calculate capital returns Bank of America and Citigroup shareholders have theoretically missed, the Journal examined how much they would have paid out if they had returned capital at the same rate as Wells Fargo. For example, Wells Fargo paid out dividends and bought back stock equal to 75% of its net income last year. Bank of America was at about 31%, while Citigroup was around 36%.

Over the past three years, the two banks returned a combined $19 billion to shareholders via dividends and buybacks. At Wells Fargo's payout levels, they would have returned about $43 billion.

The $24 billion difference underscores how the stress tests have expanded from a wonky exercise into one of the most powerful instruments regulators can wield. They affect how much a bank can pay out via dividends and share buybacks, the amount of capital they must hold, their return on equity, and lending and business decisions.

Bank of America and Citigroup declined to comment.

Nowhere are these tests more important than at Bank of America, which has flubbed the exam three times, and Citigroup, which has failed twice. These banks have lagged behind Wells Fargo and J.P. Morgan Chase & Co. on metrics affected by the stress tests directly and indirectly, including dividends, share-price gains and valuation.

The tests were created in 2009 when the banks were in upheaval during the financial crisis. The Fed later required banks to seek its approval as part of the test process before raising dividends or buying back more stock.

Today, the tests highlight the delicate balancing act facing banks: to make decisions that try to please both regulators and shareholders, whose goals -- tamping down risk versus earning returns -- don't always coincide.

Bank of America CEO Brian Moynihan recently questioned whether the capital requirements of the stress tests and other regulations were preventing the bank from making loans. The tests "will make you very safe," Mr. Moynihan said at a Wall Street Journal conference last week. "The question is whether it restricts lending."

During an investor call in April, Citigroup CFO John Gerspach said the bank had a "very good and fruitful dialogue with our regulatory brethren" on topics including the stress test. "What's up to us is to demonstrate that we are making progress," Mr. Gerspach said.

Bank of America spent more than five years paying its shareholders a token 1-cent-a-share quarterly dividend, and Citigroup spent longer than that paying that sum or no dividend at all. Both banks, which required significant government bailouts during the crisis, now pay 5 cents a share each quarter.

That remains far below their precrisis peaks, which were 64 cents at Bank of America and, after factoring in a 2011 reverse stock split, $5.40 at Citigroup. Wells Fargo, by contrast, just raised its dividend to 38 cents a quarter, and J.P. Morgan is about to increase its payout to 48 cents. At both banks, the dividend is higher than it was before the crisis.

The stress-test difficulties at Bank of America and Citigroup have caused some investors to shy away. The two banks "are still in the penalty box," said David Katz, president and chief investment officer at Matrix Asset Advisors, which had $670 million in assets as of March 31. "At some point the regulators are maybe going to be a little less punitive, but we definitely would not be banking on that." Instead, he has opted to invest in Wells Fargo and J.P. Morgan.