Updated with additional analyst commentary and closing prices.NEW YORK ( TheStreet) -- Citigroup ( C) "failed" the bank stress tests, while Bank of America ( BAC) "passed." That was the instant verdict delivered by the markets following the results of the Federal Reserve's CCAR (Comprehensive Capital Analysis and Review) announced after the bell on Tuesday. Shares of Bank of America have risen nearly 16% since Monday's close, while Citigroup has gained about 5.7%.
"We believe significant capital returns remain a matter of when, not if. While we believe that the Fed's objection to C's 2012 capital return plan is embarrassing, it is likely not indicative of an underlying capital problem," Sandler O' Neill analyst Jeffrey Harte wrote in a report. "We continue to expect C to generate more than $60B of excess regulatory capital over the next few years and to return the vast majority of that regulatory capital to shareholders."
Oppenheimer's Kotowski notes that Citi's historical loan losses were much lower than that projected in the tests. The bank's actual First Lien Mortgage delinquency and non-accruals, for instance, were lower than that of Bank of America and JPMorgan last year. "This test is not a methodical apples-to-apples comparison," said David Konrad, analyst at KBW, who was not too surprised by the loss rate projections. "A lot of it is qualitative." Konrad does not believe investors should rush to any conclusions based on the Fed's loss projections about Bank of America and Citigroup one way or the other, noting that it is an academic exercise and not indicative of future performance. He does believe, however, that the stress tests have put capital adequacy concerns for both banks to rest. "For both Bank of America and Citigroup to be above 5% at the end of the stress tests means it is time to move past concerns about the risk of the balance sheet," said Konrad, noting that Citigroup entered the crisis with less than 5% in capital and has come a long way in building its balance sheet. The more immediate concern for investors then would be whether Citi will actually get approval for a revised plan.Oppenheimer's Kotowski believes the stress test results was just the Fed's way of telling Citi, "This is not your year." "The fact that Citi "failed" with a 4.9% projected ratio after "proposed capital actions" is an interesting point," Kotowski wrote in a report. "Our take here is that the Fed simply wanted to keep Citi in the penalty box for another year because it had been among the worst performers in the crisis and caused the most embarrassment to the Fed. It is hard to read the numbers any other way." If that's the case, then investors might have to tone down their expectations for a dividend increase or buyback later in the year. "It's going to be smaller or zero as they resubmit," said Credit Suisse's Orenbuch in an interview to Bloomberg Television. "The key question is can they work with the Fed to get them to understand the actual loss characteristics of those assets." KBW's Konrad believes that future approval of dividends or buybacks might be dependent upon Citigroup's ability to show that it is well on its way to meeting Basel 3 capital standards. "Citi still has a lot of heavy lifting to do," says Konrad, who believes that the bank will have to make headway in winding down some of the riskier assets in Citi Holdings. "As they sell them, there will be a multiplier effect on how they perform on the next stress test." Konrad remains constructive on Citigroup from a long-term perspective and believes Citi will fare well in the next stress test. Investors may want to focus on earnings power rather than balance sheet as they go forward. That is an area of concern both for Bank of America and Citigroup. Analysts have been concerned that Bank of America lacks the earnings generation potential as it shrinks its balance sheet. Citigroup's recent performance meanwhile has been uninspiring, with expenses continuing to climb and the bank losing market share in its securities banking business, which is already going through a turbulent phase. Bank of America has significantly outperformed Citigroup in 2012 and the latter may have a lot of catching up to do. But both have some ways to go before they are completely out of the woods. Bank of America shares rose 4.5% to $9.24. Citigroup shares finished higher by 3% at $36.27. --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: email@example.com.