For Big Banks, Dividends Set to Make a Comeback

Banks will start paying dividends again
Banks will start paying dividends again

As the bank earnings season begins Friday with the first report from JPMorgan Chase (JPM), investors have something new to salivate over: the prospect of long-absent dividends.

JPMorgan CEO Jamie Dimon became the latest to raise this enticing prospect when he said his bank could pay out up to a dollar in dividends per share, likely in the second quarter, once the Federal Reserve gives its approval following a stress test for the nation's largest 17 banks.

"We will be adequately capitalized even in a stressed situation, so when they finish these tests, we're hopeful we'll be allowed to go back to paying normal dividends," Dimon told investors at the bank's health care conference this week in San Francisco.

"In Violent Agreement"

And Morgan isn't alone. Wells Fargo (WFC) CEO John Stumpf says he also wants to start paying dividends and buying back shares when the stress tests are completed. "It's high time that we provide a return on your investment," Stumpf said at a Goldman Sachs financial services conference last month. "I am in violent agreement that it is time we get back to a quote unquote more normal basis."

Morgan is the current darling of financial analysts, chosen as a top pick by many Wall Street banks. Mike Mayo, analyst at Credit Agricole, says Morgan "has gained market share in each of its six businesses, maintained higher capital and better technology and shown more consistency with strategy and management."

The entire financial sector has improved in recent weeks, with the S&P Bank Index ($BIX) up 18.6% since Oct. 15.

More M&A, Too

"We believe 2011 will continue to be a strong year for bank stocks due to the continued recovery in earnings, improved credit metics and stronger capital levels," says Gerard Cassidy, banking analyst at RBC Capital Markets. "These trends will likely lead to increased merger and acquisition activity and increased dividends."

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One factor helping earnings this quarter is that the banks are reducing their loss reserve funds, which they set aside to tide them over the financial crisis. Morgan, for example, is expected to report a profit of $4.2 billion in the fourth quarter, according to a survey of analysts by Bloomberg. Of that amount, which equals $1 per share, about 40% came from taking money from loss reserves.

Citibank (C) is also expected to benefit from this maneuver, with analysts predicting it could proved a 20% or better boost for 2012 earnings. Bank of America (BAC) could benefit to the tune of 5% of its 2012 earnings.

Analysts also believe that credit quality improvement should be a common theme in the results, with nonperforming loans lower than in previous quarters. Net interest margins are also improving, thanks to a steepening yield curve and the availability of low-cost funding. With the return of dividends, it all makes for an enticing package for investors.

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