Banks can buy back shares. Wall Street cheers.

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Bank stocks have reason to pop the champagne for New Year’s Eve.

The sector’s shares skyrocketed on an otherwise bad day for Wall Street, as investors cheered the Federal Reserve’s move to allow the country’s largest banks to resume stock buybacks, subject to restrictions. The

SPDR S&P Bank ETF

(ticker: KBE) is up 0.7% on Monday, while shares of

JPMorgan Chase

(JPM) and

bank of America

(BAC) won 3.8% and 3.7%, respectively.

Shortly after the Fed’s announcement on Friday, JPMorgan announced plans to buy back $ 30 billion worth of stock in 2021. Morgan Stanley also announced plans to purchase $ 10 billion worth of stock.

Few on Wall Street expected the central bank to allow buybacks so quickly. With increasing cases of coronavirus across the country and the specter of ongoing shutdowns, much uncertainty remains about the path of the economic recovery. But after their second stress test of the year, banks were able to prove that they are equipped to handle an economic downturn worse than what many economists had predicted. In preparing the stress test scenarios earlier this year, the Fed noted that they were “significantly tougher than most current baseline projections for the path of the US economy.”

For banks, the Fed’s decision brought much-needed good news for the sector. While stocks in other industries have recovered from their March lows, banks lagged as investors worried about the impact of low interest rates and expected credit losses.

Analysts expect buybacks to be a boon to stocks when they officially resume in the first quarter of next year. According to Gerard Cassidy, managing director at RBC Capital Markets, share buybacks could reach 10% of banks’ market cap next year.

Banks are somewhat limited in their return of capital to shareholders. The combination of buybacks and dividends is capped on the average earnings of the previous four quarters. As earnings took a hit in early 2020 as banks built up their credit loss reserves, capital returns will be more subdued in the first half of the year.

“However, as the year progresses, we expect redemption amounts to increase as the low results for 1Q20 and 2Q20 are excluded from the average net income for the previous four quarters from 2Q21,” Cassidy wrote.

Now that banks will benefit from the resumption of buybacks, analysts are trying to guess who the winners and losers will be.

“We see a significant capacity to buy back shares, with

Bank of New York Mellon

(BK),

Morgan Stanley (MS)

and

State Street

(STT) with the largest capacity (as% of market capitalization) in 1Q21, and

PNC Financial Services

(PNC),

Wells Fargo

(WFC) and

American Express

(AXP) least, ”Richard Ramsden, an analyst at Goldman Sachs, wrote Monday.

Analysts at Keefe Bruyette & Woods differed somewhat in their assessment of the impact of buybacks on bank stocks. They expect Wells Fargo, State Street and

Citigroup

(C), will have the most shares to buy back over two years based on market capitalization. Based on the average daily trading volumes, they expect State Street, Bank of New York Mellon, Morgan Stanley and

Northern Trust

would have the most shares to buy back.

Write to Carleton English at [email protected]