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Not fade away...


Banking Essentials Newsletter: 7th February Edition

Case Study

A Bank Outsources Data Gathering to Meet Basel III Regulations


Private Markets 360° | Episode 8: Powering the Global Private Markets (with Adam Kansler of S&P Global Market Intelligence)


Banks’ Response to Rising Rates & Liquidity Concerns

Not fade away...

Nancy Bush is a veteran bank analyst. The following does not constitute investment advice, and the views and opinions expressed in this piece are those of the author and do not necessarily represent the views of S&P Global Market Intelligence.

Trump giveth, and Trump taketh away. That's all I could think as I watched the Dow decline 373 points (1.8%) on May 17, a drop that apparently came in response to President Donald Trump's ongoing issues with regard to a possible Russia connection within his inner circle and an incipient battle with his own Department of Justice. The market has since rebounded — and it's entirely possible that the market "swoon" was nothing more than a reaction to the condition of extraordinarily low volatility has existed for many weeks now and has not historically been a condition that can be sustained forever. In any case, the President has regained his composure for now and global equity markets have done the same, and perhaps peace and quiet will persist for a while.

And of course, when the markets swoon, the bank stocks lose consciousness. May 17 saw some of the biggest declines in bank stocks in months, with the major banks registering the largest declines of the group (Bank of America Corp. down close to 6%, for instance). The reasons for the decline in the group are understandable — any development that is seen to endanger the Trump agenda of lower corporate taxes and higher economic growth knocks out one (or more) of the pillars of bank stock valuation that have been in place since November 9, and the durability of these relatively high bank stock valuations is thereby placed in doubt.

And that's a shame, because seldom (never?) before in my decades as a bank analyst have I seen bank stocks that are in better shape to be competitive as long-term investments with other sectors of the market. I have every belief that the regulatory climate — with the stress test and Comprehensive Capital Analysis and Review at its center, however much reviled — have made it much less likely that these companies will see the disruptions to dividend streams such as the ones that investors have experienced with some regularity over the past few decades. The propensity of banks to reduce or eliminate their dividends every decade or so — due to a collapse of credit quality followed by a liquidity emergency — has made cash flow-attentive investors (like me) wary of the long-term prospects of these stocks.

While the U.S. equity markets have powered on in the interim, upcoming events (budget negotiations, the debt ceiling and a possible government shutdown in September, congressional hearings on Russia, etc.) have the potential to once again morph the "Trump trade" into the "Trump fade," and not only for bank stocks. A recent Financial Times article ("How the Trump trade became the Trump fade") pointed out the ways in which the market's belief in the achievability of Mr. Trump's agenda had already begun to fade — the declining strength of the dollar, the flattening of the yield curve, investor attraction to the stronger growth prospects of Europe, and so on — and financial stocks and energy stocks have borne the brunt of this shift.

Does this have to be so? Is there any way that banks can begin to insulate themselves from the possibility of further damage to their stocks from the market volatility and angst that will likely continue to be a hallmark of the Trump presidency? I spoke to several bank executives and market observers to try to get an answer to this question, and I received some interesting answers. The short answer is "No" — bank stocks remain hostage to the general political and economic environment, as they always have — but there was a fair amount of discussion and differentiation within that monosyllabic response.

For one thing, both size and location will be important determinants of bank stock performance for the foreseeable future, and "bigger is better" is not necessarily the ingredient for successful investing that it might once have been. While Treasury Secretary Steven Mnuchin seems to have put paid to the resurrection of Glass-Steagall (at least for now), it remains hard for me to see how these companies grow significantly as they remain targets of political and public scorn and as the yield curve seems to be not yet ready to give them much revenue relief. It's informative that the two companies mentioned most in the group now are JPMorgan Chase & Co. (best in class) and Wells Fargo & Co. (can only get better), and neither of those premises seems to me to be a compelling investment case.

But if you are a mid-to-large sized community bank in the Southeast, then you do not need Donald Trump and his agenda to succeed. The monumental growth and success of this whole segment of banks has been built upon the wreckage of the community banks in this region in the wake of the Financial Crisis, which left a trail of failed banks in its wake. A whole bunch of smart managers, in some cases backed by smart money, started to build or added to existing franchises, and the magic of purchase accounting accretion (and the basics of better banking) gave them the strong earnings growth that has resulted in stock valuation metrics that are seldom seen in the banking industry.

We have had several major transactions here in the Southeast in the last two months, and there will surely be more to come. South State Corp. of South Carolina — a bank managed upon the quality principles of the "old" Wachovia — is purchasing Park Sterling Corp. in Charlotte, N.C., thus gaining greater presence in that important market and entry into Virginia. Terry Turner of Pinnacle Financial Partners Inc. — one of the smartest and toughest bank operators around — will merge his Nashville-based bank with BNC Bancorp of High Point, N.C., thus taking his Tennessee-centric company into North Carolina, South Carolina and Virginia. And Capital Bank Financial Corp. of Charlotte — a company managed by and populated with old hands from Bank of America — has just sold itself to First Horizon National Corp. of Memphis, allowing that company to move up the ranks of Southeastern banking and giving it new markets in the Carolinas and Florida.

Of this I am sure — all these acquirers are headed toward "regional bank" status (i.e., $50 billion in assets and beyond) and at least a couple of them are headed toward Atlanta over the next two years. And it's ironic that these deals have barely registered on the Wall Street radar — given the Street's continued preoccupation with a few large companies that are continually battling over a shrinking pie — and I would hazard a guess that a few large banks here in the Southeast also do not have a clue about the new competitive forces that are about to hit them. I am pretty sure that I will end my career as a bank analyst just as a whole new landscape comes into view, and that will be a positive note to go out on.

In the meantime, I have no intention of fading away, no matter how surreal the environment may seem right now. But I do have a suggestion for those of you who, like me, are struggling to get through the news each morning and need a lift to get the day started. (No, it's not a mimosa.) As I was Googling the headline to this piece — "Not Fade Away" — I happened upon a YouTube recording of the composer and most famous singer of that 1957 song, the rock icon Buddy Holly. His diamond-clear, Texas-twangy voice combined with the song's upbeat lyrics are a great way to remember when we Americans were a lot more positive about everything (including banks.) Not fade away, indeed.