--Fed approves a 25% dividend increase, to 10 cents

--Fed approves up to $600 million in stock buybacks, more than analysts had expected

--Bank says it will soon start to repurchasing shares worth $350 million

(Adds analyst comment and background, starting in the fifth paragraph.)

 
   By Matthias Rieker and Ben Fox Rubin

Fifth Third Bancorp (FITB) said the Federal Reserve has approved the Midwestern bank's request for a dividend increase and an expanded stock repurchase program.

The Fed approved a 25% dividend increase, to 10 cents a quarter, and up to $600 million in stock buybacks through the first quarter of 2013, Fifth Third said. The bank said it would soon commence a $350 million share repurchase, while the bank's board authorized buying back up to 100 million shares.

The Cincinnati bank, one of the 20 largest in the U.S., had about 919 million shares outstanding as of June 30. After the news, the shares rose nearly 3% in after-hours trading to $14.80. As of Tuesday's close, the stock was up 13% so far this year, lagging large regional banks overall.

Given that Fifth Third received Fed approval to pay out 69% of earnings to shareholders, more than investors had expected, "this should result in favorable price action tomorrow," said Frank Barkocy, the director of research at Mendon Capital Advisors Corp. It could even raise expectations for the payout at other banks, he said.

The buyback is twice what BMO Capital Markets analyst Peter Winter had expected--in addition to the dividend increase, which analysts had expected. "Investors were concerned about what potential problem could be lurking" at Fifth Third that led to the Fed's rejection of the bank's capital plan earlier this year, Mr. Winter said.

"Whatever the issue was, it was resolved without financial burden," he said.

The stock might now catch up with its large regional bank peers. The KBW bank index is up 20.5% so far this year. Fifth Third is a component of the KBW index.

Fifth Third was one of three banks that had to resubmit to the stress test required annually of the nation's largest banks by the Fed. Fifth Third, Citigroup Inc. (C) and SunTrust Banks Inc. (STI) ran into objections by the Fed in how much capital they can return to shareholders in the form of dividends or buybacks.

Citi said it won't ask for a stock buyback, and it hadn't even asked for dividend increase; SunTrust also said in a regulatory filing earlier this month it didn't request any incremental return of capital.

Fifth Third Chief Executive Kevin Kabat said in a press release Tuesday the bank's "strong capital base, profitability and earnings generation," led to the approval after a subsequent review by the Fed.

Last month, Fifth Third said its second-quarter profit rose 14% to $385 million, or 40 cents per share, while revenue rose 3.4%, to $1.57 billion, more than Mr. Winter and other analysts had expected.

With interest rates low and economic conditions uncertain, regional banks are struggling to increase income from lending. But Fifth Third's loans, particularly business loans, rose during the quarter.

Write to Matthias Rieker at matthias.rieker@dowjones.com