US bank stock rally, pending rate cuts set to unleash pent-up M&A demand

US bank M&A is set to make a strong return once several headwinds holding it back subside.

The 2023 bank deal drought was forecast to end in 2024, but at the half-year point, there is little relief for banks hesitant to jump back into the dealmaking deep end. Through June 30, 59 US bank deals were announced, with much of that momentum coming from the second quarter with 32 deal announcements. Deal value also ticked up in the second quarter with several large deal announcements. However, overall activity remained muted.

Persistently high interest rates, strict regulatory expectations and stock undervaluation are still sidelining buyers that would otherwise participate in dealmaking, deal advisers said. But with rate cuts now on the horizon, bank stocks rallying and the potential for a new administration, bank M&A could experience a boost by year-end, advisers said.

"There are a lot more conversations going on today than there were, say, six to 12 months ago," Scott Martorana, executive managing director at FinPro Capital Advisors Inc., said in an interview. However, the uptick is still in the early stages. "'Starting' is the key word," Martorana added.

Catalysts for a wave

Improved valuations are one key needed to unlock a bank M&A rebound as higher valuations would push buyers back into the marketplace, said Don Musso, president of FinPro Inc. Once buyers get the currency they need and seller prices adjust accordingly, Musso predicts a major boost in dealmaking.

"Everybody is waiting for that market correction to happen," he said. Once that change happens, Musso said, "the floodgates are going to really open."

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Luckily, bank stocks have experienced positive momentum this month, with the KBW Nasdaq Regional Bank Index up 15.9% month to date, which is boosting discussions.

"There are conversations currently happening with stock, and I think it will increase with the stock market recovery," Equity Bancshares Inc. founder, Chairman and CEO Brad Elliott said on the company's second-quarter earnings call. "Stock has come more into play."

Lower interest rates are also vital for dealmaking to return to normal levels, advisers said. Under lower rates, accounting headaches would lessen and deals would not need as much capital get done, they said.

The results of the US presidential election could also shift the M&A tides, said multiple bankers as well as Ricco Bhasin, partner at Torys LLP. The current administration has made scrutinizing M&A deals a priority over the past four years.

"We've got an election coming up that could change everything," Musso said. "We could have all new agency heads here by this time next year, that would change the world dramatically too."

H2 surge

While overall US bank M&A activity was still muted in the first half, it showed signs of life with the four largest bank deals of 2024 announced in the second quarter.

Deal value in the second quarter hit its peak since fourth quarter 2021 at $5.45 billion, making up 84% of total announced deal value for the year through June 30. However, the deal value second-quarter total was skewed by two $1 billion-plus deals.

While interest rates remain a headwind, capital raises helped to boost activity in the quarter by easing the holes created by mark-to-market accounting issues.

The second-largest announcement this year, UMB Financial Corp.'s $1.99 billion acquisition of Heartland Financial USA Inc., required a $210 million capital raise alongside the deal announcement to support risk-based regulatory capital ratios, as did several other transactions this year.

"You can have two independently well-capitalized banks, that when they enter into an agreement to merge, the accounting marks create a meaningfully less well-capitalized institution," said an investment banker who is familiar with the deal but did not advise on it.