When Congress passed Dodd-Frank regulatory reform in May, many thought the legislation's increase to the systemically important asset threshold could herald a rush of megabank deals.
Bankers often refer to deals with values greater than $1 billion as large, and the flow of those deals have quickened. But a skeptical market dampens the odds of massive deals — those with a value of $5 billion or more.
Year-to-date, there have been four deals with values over $1 billion, and the buyers in all four deals have seen markets punish their stocks. Investors have even reacted harshly to banks suggesting the prospect of M&A. BB&T Corp. and New York Community Bancorp Inc. saw their stocks tumble roughly 5% after their most-recent earnings calls despite pledges to only consider economically attractive deals.
"The markets are not buying large-bank M&A. They don't want to see it," said John Roddy, head of financial services for Raymond James.
The largest deal so far this year was pretty close to the $5 billion level, and the market reaction has been negative. The stock for Fifth Third Bancorp dropped 7.9% the day it announced a $4.6 billion acquisition of MB Financial Inc. The stock recovered some of those losses in the next few days before giving up those gains. From the announcement through Aug. 3, the stock was down 11.5%, compared to a 2.1% gain for the SNL U.S. Bank and Thrift index.
Lagging stock performance has similarly plagued the three other banks that have paid more than $1 billion for an acquisition this year. Independent Bank Group Inc. paid the most on a relative basis, buying Guaranty Bancorp for 3.19x of tangible book, and Independent's stock has dropped the most. Since the May 22 announcement for the deal, the stock has declined by 13.7%, compared to a 1.2% gain for the banking index over the same time.
Despite the sell-offs, managements that prioritize the long-term value of their companies will not be swayed by the recent skepticism, said Gary Tenner, an equity analyst for D.A. Davidson & Co.
"If you're a management team with a long-term view of the world and your business, you should not be worried about the six-day or six-month stock impact," Tenner said. The most likely activity for large-bank M&A, Tenner said, would be banks just under the old, pre-reform $50 billion asset threshold. Banks with $30 billion to $40 billion in assets would struggle to do a $5 billion deal considering they tend to have market capitalization figures of $4 billion to $6 billion.
Raymond James' Roddy said deals valued at $500 million to $1 billion will continue to materialize, adding that the negative market reaction would be more chilling to much larger deals. "The capital return trade is what the market wants to see from those guys. It'll take a bold CEO to go counter to that," he said.
Returning capital to shareholders has been popular in recent months as banks have more capital thanks, in part, to the tax cut. In some cases, deals are more attractive than buybacks on an earnback basis, but the market continues to prefer share repurchases. BOK Financial Corp. told investors that its purchase of CoBiz Financial Inc. faced a 5.75-year earnback, compared to a 7.5-year earnback for repurchasing shares. Nonetheless, the company's stock fell 5.7% the day of the deal announcement. Analysts point to execution risk as a driving factor for the share repurchase preference: Even with a looser regulatory environment, deals — especially large deals — are not a certainty.
Over the last year, bank stocks have appreciated considerably, making it more difficult for depositories to use their stocks as currency in deals.
"Until the valuation paradigm changes a little and investor sentiment changes," Roddy said, "it's hard to see that M&A frenzy among the larger banks."