The Federal Reserve’s annual Comprehensive Capital Analysis and Review (CCAR) program is underway, meaning the central bank is reviewing plans by major U.S. banks to return capital to shareholders. That includes dividends and share repurchases.
This year’s CCAR program is reviewing 30 large U.S. banks and the results are expected to be revealed next month. Financial services ETFs such as the Financial Select Sector SPDR (NYSArca: XLF) are expected to see at least some of their constituents announce higher payouts in the second quarter.
“Markit believes average dividend growth in 2014 will be on par with 2013. The most significant changes are concentrated in three banks: Bank of America (NYSE: BAC), Citigroup (NYSE: C), and Morgan Stanley (NYSE: MS). Though trailing the group in recent years, these three appear poised for major dividend growth in 2014. Expectations for the remainder are more pedestrian, thanks to Fed guidelines discouraging payouts greater than 30%. Though payouts exceeding 30% are not explicitly prohibited, the Fed notes such actions would attract their increased attention. Because payouts across most banks already approach 30%, we have lower projections for banks outside the top five,” according to the research firm.
Bank of America and Citigroup are XLF’s fourth- and fifth-largest holdings, respectively, combining for 12.2% of the ETF’s weight. Morgan Stanley receives a 1.5% allocation in XLF, the largest U.S. sector ETF by assets. [Rotating Through Strong Sector ETFs]
Markit is forecasting dividend increases to five cents a share per quarter from a penny a share for Bank of America and Citi. The research firm also expects Morgan Stanley will double its quarterly payout to 10 cents per share. Other big dividend increases on a percentage basis are expected from Zions Banorp (NasdaqGM: ZION) and Regions Financial (NYSE: RF). Markit sees dividend increases for that pair of 75% and 67%, respectively.
Markit’s outlook for dividend increases in the financial services sector jibes with other forecasts. Bloomberg recently ranked the top 25 potential dividend growers pulled from a universe of 130 S&P 500 constituents expected to boost payouts over the next three years. The banks that appear on the list are as follows in ascending order: Comerica (NYSE: CMA), Bank of New York Mellon (NYSE: BK), KeyCorp (NYSE: KEY), Morgan Stanley, Huntington Bancshares (NasdaqGM: HBAN), Discover Financial Services (NYSE: DFS), SunTrust (NYSE: STI), Regions Financial and Citigroup. [Bank ETFs for Dividend Growth]
At the time of that Bloomberg report, those stocks combined for over 10% of XLF’s weight. XLF’s current dividend yield of 1.77% is nothing to swoon over, but the ETF’s payout is on the rise. XLF paid a dividend of about 32 cents per share last year, up from roughly 29 cents in 2012 and 23 cents in 2011, according to State Street data.
Markit is also forecasting dividend increases from Comerica, Discover, KeyCorp, Huntington Bancshares, SunTrust and Bank of New York Mellon. The research firm also sees double-digit payout increases from Dow components J.P. Morgan Chase (NYSE: JPM)and American Express (NYSE: AXP), a combined 11.4% of XLF’s weight.
“The 23 banks mentioned in this report account for nearly 62% of XLF. The top five holdings alone exceed 41% of XLF. The projected 400% increases in Bank of America and Citigroup’s dividends alone will be major drivers for XLF’s dividends. Increases from the CCAR banks are expected to boost XLF’s Q2 dividend 25% compared to Q1. This compares to an 18.1% increase in Q2 dividends projected for SPY, the SPDR S&P 500 ETF (NYSEArca: SPY),” according to Markit.
The $2.2 billion SPDR S&P Bank ETF (NYSEArca: KBE) does offer some exposure to CCAR dividend hikes, but as an equal weight ETF, the fund’s potency on the dividend increase fund is somewhat diminished. [Regional Bank ETFs Rally]
“In contrast to XLF, the SPDR KBW Bank ETF (KBE) has a much lower impact from the large banks. CCAR banks account for just 26.4% of KBE. Only two CCAR banks, Huntington Bancshares and Regions Financial, are in the top 5 of KBE’s holdings. Accordingly, expectations for dividend growth are lower for KBE than XLF. We currently project an 18% increase in KBE’s Q2 dividend, compared to 25% for XLF,” said Markit.
The PowerShares KBW Bank Portfolio (NYSEArca: KBWB) is another option to consider. In fact, the fund has previously been highlighted as a valid play on bank dividend growth. [ETFs for Banks Returning Capital to Shareholders]
The $164.4 million ETF allocates over 38% of its combined weight to Bank of America, J.P. Morgan Chase, Citigroup, Comerica, Regions and Zions.
Data Table Courtesy: Markit
Tom Lydon’s clients own shares of American Express and Regions.