James Gorman, chief executive officer of Morgan Stanley
Photo by Bloomberg — Getty Images
By Stephen Gandel
June 29, 2016

Morgan Stanley’s problems just got a lot worse.

On Wednesday, the Federal Reserve said that Morgan Stanley (ms) had to resubmit its stress test for “qualitative” reasons. It was the only U.S. bank not to fully pass this year’s stress test. The Fed looked at 33 banks this year, including a number of U.S. subsidiaries of foreign banks. The stress tests look at whether a bank would be able to weather a significant economic meltdown and continue to lend without needing a bailout.

The Fed released the quantitative results of the test last week, and all of the banks appeared to have passed. In fact, overall, the banks came out looking healthier than they did the previous year.

But on Wednesday, the Fed said Morgan Stanley had come up short. In order to pass the stress test, banks have to show they have enough capital to cover a downturn, but they also have to show the Fed that they have the processes in place to assess what losses they might have if things get bad. The Fed said Morgan Stanley has “material weakness” in its “capital planning process.” The regulator also said that Morgan Stanley internal stress tests did not adequately reflect the “risks and vulnerabilities specific to the firm.”

The stumble on the stress test is the latest blow for Morgan Stanley, which has struggled lately. Last last year, the bank announced that it planning to cut 25% of its trading staff. Last month, at Morgan Stanley’s annual shareholder meeting, Gorman faced tough questioning from prominent bank analyst Mike Mayo, who seemed to doubt that the bank would be able to meet its profitability targets. Morgan Stanley’s stock has fallen 35% in the past year.

The Fed said Morgan Stanley would have to resubmit its stress test by the end of the year. But the regulator stopped short of forcing the bank to suspend dividends or stop share buybacks.

A Fed official said that if Morgan Stanley were to fail on its resubmitted plan then it may be barred from paying dividends in the future. “The board had significant concerns about Morgan Stanley’s capital plan,” says the Fed official.

Morgan Stanley, in a statement, said that the Fed had not objected to its capital plan, but that it looked forward to resubmitting its plan. The bank said it was upping its stock buybacks to $3.5 billion over the next four quarters, up $1 billion from the same period the year before. Morgan Stanley also upped its quarterly dividend to $0.20 a share, an increase from $0.15.

“We are very pleased to be able to increase our capital return to shareholders for the fourth consecutive year,” said Gorman in a statement. “In addition, we are committed to addressing the Fed’s concerns about our capital planning process and fully expect to meet their requirements within the established timeframe.”

The Fed also failed U.S. subsidiaries of Deutsche Bank and Santander for qualitative reasons, though its ability to police foreign banks is limited.

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