Citigroup, Morgan Stanley are Buyback Wildcards

NEW YORK ( TheStreet) -- Banks are expected to comfortably pass the Federal Reserve's annual stress test but estimates of just how much capital the winners of the test will return to shareholders vary widely.

Analysts seem to agree that the healthiest of the big banks including JPMorgan Chase ( JPM) and Wells Fargo ( WFC) are most comfortably placed in terms of both capital and profitability to return significant amount of capital to banks.

Yet, with JPMorgan's focus on reaching new requirements on capital "sooner" rather than later- as early as end of 2013, according to their latest presentation- analysts remain uncertain on just how much the bank will end up spending in share repurchases.

For instance, while Bank of America Merrill analysts project a payout of 50%, RBC Capital analysts see a total payout of as much as 74%.

Wells Fargo, too, is active on the deal front, although it has said it would return more capital to shareholders.

So it is hard to know at this point just how much of a dividend increase or buyback will be good enough to please the Street.

>> 4 Dividend and Buyback Read Bank Stocks

"While harsh stress-testing from the Fed was always a risk to results, a risk that we believe is less recognized by the market is that banks would be conservative with regards to capital return requests, for fear of being "rejected", Erika Penala, analyst at Bank of America Merrill Lynch wrote on Tuesday, highlighting that the stress tests could disappoint.

Citigroup ( C) and Morgan Stanley ( MS)may be potential wildcards in the stress tests, UBS analysts wrote on Thursday.

Shares of Citigroup have rallied more than 25% in 2012 on expectations that the bank will start returning more capital to shareholders.

But the market might still be underestimating the potential shareholder goodies from Citigroup, according to UBS analyst Brennan Hawken.

The bank could spend $3 billion in buybacks, an estimate roughly in line with consensus, but added that it only represents about one quarter of 2012 projected earnings. "Therefore, we believe Citi's2012 share repurchase could surprise to the upside," he wrote in a note Thursday.

His views were also echoed by Bank of America Merrill Lynch analysts, who estimated in a report Thursday that Citigroup could payout 30% of its earnings in dividends and buybacks in 2012. The annual dividend could rocket to 40 cents per share from 3 cents per share in 2011 and the bank might repurchase $2.5 billion in shares.

The analysts said their forecast was "on the high side of "street" expectations", with consensus calling for a 15% total payout and added that any payout over $2 billion "would elicit a positive investor reaction."

Oppenheimer analyst Chris Kotowski studied what the options markets were pricing in for dividends from Citigroup. In a Feb.28 report, the analyst said the market was pricing in a dividend increase of about 3 cents a quarter, compared to Kotowski's own estimate of 10 cents a quarter.

"Given the level of future dividends priced into the options market, we think that C has the greatest chance of showing a positive surprise when CCAR results are announced," he wrote.

While Citigroup is expected to surprise on the upside, Morgan Stanley may disappoint, according to UBS' Hawken.

The analyst believes Morgan Stanley may "hold off on buybacks to maintain options down the road." The investment bank may want to retain capital to accelerate its purchase of the rest of Citigroup's stake in their Morgan Stanley Smith Barney joint venture.

Merrill analysts expect Morgan Stanley to payout 35% of its earnings in the form of a modest buyback. Still, there is some downside risk to the market's expectations. "We believe MS may not request any buyback in '12, which could disappoint."

--Written by Shanthi Bharatwaj in New York

>To contact the writer of this article, click here: Shanthi Bharatwaj.

>To follow the writer on Twitter, go to http://twitter.com/shavenk.

>To submit a news tip, send an email to: tips@thestreet.com.

Disclosure: TheStreet's editorial policy prohibits staff editors and reporters from holding positions in any individual stocks.

More from Stocks

North Korea, Apple, GPDR and Gap - 5 Things You Must Know

North Korea, Apple, GPDR and Gap - 5 Things You Must Know

One Thing to Consider Over Memorial Day Weekend: Are Stocks About to Collapse?

One Thing to Consider Over Memorial Day Weekend: Are Stocks About to Collapse?

Inside Carnival's Mind Blowing New Horizon Cruise Ship (Video)

Inside Carnival's Mind Blowing New Horizon Cruise Ship (Video)

Complying With GDPR Could Be Costly for Facebook, Google and Other Tech Giants

Complying With GDPR Could Be Costly for Facebook, Google and Other Tech Giants

Market Can't Handle the Wild Ride: Cramer's 'Mad Money' Recap (Thursday 5/24/18)

Market Can't Handle the Wild Ride: Cramer's 'Mad Money' Recap (Thursday 5/24/18)