By Sinead Cruise
LONDON (Reuters) - Shares in Lloyds <LLOY.L> and Royal Bank of Scotland <RBS.L> tumbled on Tuesday after failing to impress in the 2019 stress test of Britain's biggest banks, while new capital rules are expected to hit their multi-billion pound investor payout plans.
The UK's largest domestic banks both passed the Bank of England's annual assessment of balance sheet strength but plans to double a 100 basis point capital buffer designed to protect lenders in a depressed economy could put both banks' 2020 share buyback plans in jeopardy, analysts said.
"Given we have not seen an acceleration in credit growth, we conclude this is being put in place to be, for lack of a better word, a "Brexit buffer"," analysts at Jefferies said.
The BoE said the financial system was sufficiently well capitalized to endure a "no-deal" Brexit but some economists suggested Britain's imminent exit from the European Union could still crimp credit demand and lead to a spike in bad debts.
Lloyds shares were 4.6% down at 1154 GMT while RBS shares were down 3.8%, erasing some of the gains booked since the business-friendly Conservative Party recorded its best election result in decades on Friday.
The increase in the counter-cyclical buffer is seen likely to lead to a reduction in another pot of regulatory capital known as P2A by 50%. This will allow major British banks to absorb up to 23 billion pounds of losses in a downturn without cutting lending.
For larger banks, the BoE said the changes would increase Tier 1 capital requirements, the key measure of balance sheet resilience, by about 0.35 percentage points to just over 14%.
That rise could put in doubt the banks' near-term goals to hand shareholders billions of pounds via special dividends and a buyback bonanza, with Lloyds' 1.2 billion buyback target now considered a "best case", according to KBW analysts.
Shares in Barclays <BARC.L> were also down 3% at 1154 GMT.
Like Lloyds, the BoE said Barclays would need to convert some of its AT1 capital into equity during a stressed scenario, if new accounting rules that fully take effect in 2023 were applied.
Shares in HSBC <HSBA.L> meanwhile were 1% higher at 1154 GMT, even though the bank also needed to cut dividends, bonuses and AT1 bond coupons to clear the pass rate hurdle in a test described by the banks as more severe than the global financial crisis.
"The BoE is actually strengthening the resilience of banks’ capital positions, improving their capital flexibility while maintaining minimum capital requirements at roughly current levels," Goodbody said in a note to clients.
(Reporting By Sinead Cruise, editing by Iain Withers and Jane Merriman)