MarketView for March 18

Summary

Friday saw the major equity indexes close out the day in positive territory, despite some heightened volatility. Nonetheless, there was reluctance on the part of many to take substantial equity positions due to turmoil in the Middle East and Japan's nuclear crisis.

 At the same time, the S&P 500 and the Dow Jones industrial average ended lower for the second consecutive week as volatility spiked once again. The two-day rally that ended the week wasn't enough to offset losses early in the week that briefly erased the indexes' 2011 gains. For the week, the Dow Jones industrial average was down1.5 percent, while the S&P was off 1.9 percent and the Nasdaq, in its fourth straight down week, fell 2.6 percent.

About 9.61 billion shares traded on the three major exchanges on Friday, more than average but still lower than recent selloffs. "Quadruple witching," the quarterly expiration and settlement of March equity options and futures, contributed to Friday's volume.

Markets are bracing for more volatility as is indicated by the Chicago Board Options Exchange Volatility Index .VIX, which fell 6.4 percent on Friday but is up 23 percent on the week. VIX futures contracts traded at a discount to the spot VIX, however, which suggests expectations for wild swings only for a short period.

Bank shares rose after the Federal Reserve announced that it as agreed to allow some banks to restart or increase their quarterly dividend payments. Wells Fargo and JPMorgan Chase immediately announced dividend increases. Wells Fargo rose 1.5 percent to $31.83 while JPMorgan increased by 2.6 percent to close at $45.74.

The Bank of Japan bought billions of dollars to restrain a soaring yen and was followed by U.S. and European central bank purchases. The iShares MSCI Japan Index Fund was up 3.1 percent.

Brent crude was down 0.9 percent to $112.30 a barrel in volatile trading after Libya announced a ceasefire and agreed to halt military action against rebels after a U.N. resolution.

The yen fell broadly, with the dollar gaining as much as two yen against the Japanese currency. On Thursday the yen rose sharply in the aftermath of the earthquake and tsunami, which threatened to aggravate the country's economic woes by stalling exports.

The Currency Shares Japanese Yen Trust (FXY.P) traded on many times its average daily volume, with most of the action in the March $124 and $125 put options ahead of the contract’s expiration after the close on Friday.

Banks Receive Permission

Several major banks, including JPMorgan Chase, received permission from the Fed on Friday to increase their dividends, loosening the reins on the industry 2-1/2 years after the government bailout. Banks received billions of dollars of rescue funds from the government in 2008 and 2009 after suffering huge losses in a credit crunch. But in 2010 the banking system turned a profit, emboldening regulators to permit banks to return money to shareholders through dividends and buybacks.

The strongest banks, including JPMorgan, are entitled to raise dividends and buy back shares in a matter of weeks, while weaker banks, including SunTrust, were authorized to issue shares and pay back government bailout money.

The Federal Reserve tested how banks would fare if the economy were to come under more pressure, in another round of stress tests nearly two years after the first round. European banks face similar tests.

Banks are still recovering from the financial crisis, and the Federal Reserve has still kept some restrictions on their payouts to shareholders. The Fed said on Friday it was generally restricting dividend payments to 30 percent or less of the company's expected earnings in 2011, a ratio well below the 50 percent level paid out during better times.

However, several banks announced plans to return capital to shareholders on Friday. Wells Fargo, the fourth-largest bank, said it was paying a 12 cent per share dividend for the first quarter, compared with a prior level of 5 cents. At the same time, Goldman Sachs indicated that it was buying back $5 billion of preferred shares from Warren Buffett's Berkshire Hathaway, ending a costly deal that shored up confidence in the bank at the height of the financial crisis. The buyback will allow Goldman to increase the dividend it pays on its common stock.

In this second round of stress tests, the Fed had banks submit their own analyses of whether they could withstand adverse economic conditions. In 2009, the Fed played a much larger role in analyzing banks' capital.

Banks historically have paid dividends, but often have trouble cutting their payouts when times get tough, for fear of panicking investors. In the years leading up to the crisis, banks paid out billions of dollars to investors, through dividends and share buybacks, even as the financial system grew shaky.

The stress tests are not over. Under the Dodd-Frank law tightening regulation of the financial industry, large banks and other financial firms are required to conduct stress tests at least once a year. Meanwhile, three of the 19 largest banks have yet to repay the bailout money they took at the height of the financial crisis.

However, two of the three, SunTrust and Keycorp, have said they will do so shortly as another sign of the industry's recovery. Regions Financial, the last remaining TARP holdout in the group of 19, said the company did not propose any capital action in its regulatory review, and will repay TARP in a "prudent manner, on shareholder-friendly terms." Wall Street has been waiting for banks to restore quarterly payouts after they were suspended or slashed to as little as a penny a share at the height of the 2007-2009 financial crises.