The Fed's SLR Reform and Its Implications for Big Bank Valuations

The Federal Reserve's proposed 2025 Supplementary Leverage Ratio (SLR) reform marks a pivotal shift in U.S. banking regulation, recalibrating capital requirements for global systemically important banks (GSIBs) to enhance flexibility while addressing unintended distortions. This reform, announced on June 25, 2025, replaces the fixed 2% buffer in the enhanced SLR (eSLR) with a variable buffer tied to each bank's risk-based capital surcharge. The recalibrated eSLR for U.S. GSIBs is expected to range between 3.5% and 4.25%, a reduction of 0.5–1.5 percentage points. For context, the 2018 Dodd-Frank rollback—a deregulatory effort that raised asset thresholds for heightened oversight—had a mixed legacy: it boosted capital efficiency for midsize banks but contributed to the 2023 regional banking crisis. The 2025 reform, however, appears more nuanced, balancing deregulatory benefits with safeguards for financial stability.

Capital Efficiency: A New Leverage Paradigm

The 2025 SLR reform is designed to reduce the binding nature of leverage ratios, which have historically constrained banks' ability to allocate capital to low-risk assets like U.S. Treasuries. By linking the eSLR buffer to a bank's risk-based surcharge, the reform aligns leverage requirements with the Basel III framework's intent: to let risk-based capital remain the primary constraint. For example, a GSIB with a 1.5% surcharge would face an eSLR of 4.5% (3% base + 1.5% buffer), compared to the previous 5%. This shift could free up ~$50–70 billion in capital for large banks, enabling more efficient use of balance sheets.

This mirrors the 2018 rollback's impact, which reduced compliance burdens for banks below $250 billion in assets. However, the 2018 changes inadvertently removed critical safeguards, as seen in the collapse of Silicon Valley Bank (SVB) and Signature Bank. The 2025 reform avoids such pitfalls by retaining stress testing and liquidity buffers for GSIBs, focusing instead on recalibrating leverage ratios to avoid stifling Treasury market intermediation.

Lending Expansion: A Double-Edged Sword

The reform's emphasis on low-risk assets may not translate directly to increased lending. Unlike the 2018 rollback, which incentivized risk-taking by easing Volcker Rule restrictions and mortgage underwriting standards, the 2025 SLR reform encourages banks to hold more Treasuries—low-risk but low-yield assets. This could limit the upside for loan growth but bolster the resilience of the U.S. Treasury market, a critical pillar of global finance.

However, the freed-up capital could still flow into higher-return sectors if banks adjust their strategies. For instance, banks might increase lending to small businesses or expand investment in securitized products. The key risk lies in regulatory arbitrage: banks might exploit the new flexibility to take on more risk in less-regulated areas, as seen in the 2018–2023 cycle.

Sector Rotation: Opportunities and Risks

The 2025 reform could trigger a sector rotation as investors reassess big bank valuations. Post-2018, banks like JPMorgan Chase and Bank of America saw valuation gains due to reduced compliance costs and capital efficiency improvements. A similar trend may emerge here, particularly for GSIBs that benefit from the lower eSLR. However, the reform's focus on Treasury holdings could also redirect capital toward fixed-income markets, potentially underperforming equities in a high-interest-rate environment.

A critical question is whether the reform will attract or repel investors. The 2018 rollback initially boosted bank valuations but eroded confidence after the 2023 crisis. The 2025 reform, by contrast, retains stress tests and liquidity requirements, offering a more balanced approach. This could appeal to investors seeking capital-efficient banks with downside protection, particularly those with strong Treasury market operations.

Investment Implications: Navigating the New Landscape

For investors, the 2025 SLR reform presents both opportunities and cautionary lessons. Banks that effectively leverage the new flexibility—such as those with robust Treasury intermediation capabilities or strong capital ratios—could outperform. Conversely, institutions that overextend into riskier assets may face volatility, echoing the 2023 crisis.

A strategic approach might involve:
1. Positioning in GSIBs with high capital efficiency: Banks like JPMorgan Chase (JPM) and Citigroup (C) are likely to benefit from the eSLR reduction, especially if they expand Treasury holdings or optimize balance sheets.
2. Monitoring sector rotation: Investors should watch for capital inflows into fixed-income markets and outflows from equities, adjusting portfolios accordingly.
3. Avoiding regulatory lags: Smaller banks outside the GSIB category may still face regulatory headwinds, limiting their ability to capitalize on the reform.

The 2025 SLR reform is a calculated deregulatory move that, if executed properly, could enhance financial stability while supporting capital efficiency. However, its success will depend on how banks and regulators navigate the fine line between flexibility and risk. For investors, the key is to balance optimism about capital gains with vigilance against the ghosts of 2018 and 2023.