(Bloomberg) -- The Federal Reserve just devised a harsh new punishment after Wells Fargo (NYSE:WFC) & Co. landed in scandal after scandal -- one that may haunt every big bank.
The San Francisco-based lender was banned late Friday from growing until it convinces authorities it’s addressing shortcomings -- an action that could cost it $400 million in profit this year. Untested is how the cap on total assets will affect the firm long term by handing its largest competitors an advantage in pursuing new business.
Even as the Trump administration signals a loosening of regulations across industries including Wall Street, the Fed’s move sets a scary tone. In an industry where public scorn seems to shift every few years to another colossal U.S. firm, without necessarily hampering growth, this year it’s Wells Fargo -- next year, who knows?
“The Fed just put the fear of God into bank boardrooms across the country,” Capital Alpha Partners LLC analyst Ian Katz said in a Sunday note. “Since the financial crisis, bank boards have gradually become more serious and less rubber-stampy. But the Wells scandals indicate that some boards still aren’t vigilant enough.”
Acting ‘Swiftly’
Shares of the company tumbled more than 9 percent in early trading in New York on Monday, dropping to $58.12 at 7:07 a.m.
Wells Fargo is moving to rectify the regulators’ concerns, said spokesman Oscar Suris.
“As Friday’s consent order acknowledges, Wells Fargo has made progress in enhancing its board governance and compliance and risk management, and that work continues through the consent-order process and ongoing actions such as recent key outside hires and additions to the board,” Suris said Sunday in an emailed statement. “The company is confident that under Chair Betsy Duke and CEO Tim Sloan we will move swiftly to address the issues.”
Read more: Wells Fargo’s rehabilitation requires change at the top: Gadfly
Major U.S. banks have bounced back from past crackdowns.
In 2013, JPMorgan Chase & Co (NYSE:JPM). agreed to more than $23 billion in legal and regulatory settlements as the bank sought to resolve probes in areas including energy trading, oversight of services to Ponzi-scheme operator Bernard Madoff and mortgage-linked dealings by the bank and firms it acquired. The next year its assets grew by $157 billion.
In late 2011, mounting fines and liabilities over Bank of America Corp (NYSE:BAC).’s role in the housing collapse pushed its stock price below $5. Still, the bank was able to add more than $80 billion in assets the following year.
Ratcheting Up
The Wells Fargo sanction -- called unprecedented by Fed officials -- arguably marks an apex for central-bank enforcement actions that have been ratcheting up in recent years.
The Fed has at times put a bank’s growth in check, such as in 2005 when it told Citigroup Inc (NYSE:C). that it was expected to not undertake “significant expansion” until it addressed the issues that gave rise to numerous compliance failures. But before the 2008 financial crisis, the Fed wasn’t known for punishing lenders.
During former Chair Janet Yellen’s tenure it changed course, routinely banning bankers from the industry who had been accused of misconduct and joining other regulators in imposing billions of dollars in fines on Wall Street firms.
What’s unclear is whether Wells Fargo’s sanction reflects how the Fed will do business going forward, or if it’s the capstone of a more aggressive enforcement posture that could now start receding.
Trump’s Tone
President Donald Trump, who has repeatedly said he wants to loosen constraints on the financial industry, is increasingly putting his stamp on the central bank. His pick, Jay Powell, succeeds Yellen. Former Carlyle Group (NASDAQ:CG) LP executive Randal Quarles is now responsible for the Fed’s oversight of large banks, and last month the Trump appointee laid out his road map for easing aspects of the Dodd-Frank Act and other rules.
Quarles said his plans include altering regulations that have forced lenders to hold bigger capital cushions, revising Volcker Rule trading restrictions and making annual stress tests that examine whether firms can endure another economic meltdown less burdensome. Quarles, who became the Fed’s vice chair of supervision in October, had no involvement with the Wells Fargo case because family ties have prompted him to recuse himself from all matters tied to the lender.
‘Willing’ Regulators
Representative Maxine Waters of California, the top Democrat on the House Financial Services Committee, said the Fed’s action shows that regulators must be vigilant across the industry.
“We need more regulators to be willing to use all of the regulatory tools at their disposal to deal with bad actors like Wells Fargo,” she said.
The Fed’s move presents an opportunity for other banking giants, according to Betsy Graseck, an analyst at Morgan Stanley (NYSE:MS). Wells Fargo is coming off a year when its loans fell for the first time since 2010 as the bank grappled with fallout from the scandals and pulled back in auto lending. Any reliance on the consumer business for growth would come as the bank is shrinking its branch network.
‘Back Foot’
“I would think every competitor is looking at this saying, ‘OK, Wells is going to be on the back foot for the full year so let’s go after market share,” Graseck said Friday as analysts grilled Sloan on Wells Fargo’s conference call.
A “very small number” of Wells Fargo’s existing customers will be affected by the bank’s need to dial back some activities, Sloan said on the call. Among them will be other banks that have parked some of their money at Wells Fargo, said Chief Financial Officer John Shrewsberry. Ditching those high-cost deposits could end up boosting Wells Fargo’s net interest margin, Shrewsberry said.
Sloan, the bank’s chief executive since October 2016, isn’t in imminent danger, said Charles Peabody, an analyst at Compass Point Research & Trading.
“Sloan can stay as long as there is no additional scandal,” Peabody said. “You’ve got to have the shareholders on board to change management. I don’t sense you have it there yet.”
Still, in a Sunday note, Jefferies analyst Ken Usdin summed up concerns about the potential for more sanctions or nervous investors dumping shares by asking whether the Fed’s action was the “end of the beginning or beginning of the end.”
(Updates with share decline in fifth paragraph.)