Sean Ryan is a bank analystfor SaLaurMor Capital. The views and opinions expressed in this piece are thoseof the author and do not necessarily represent the views of S&P GlobalMarket Intelligence.
Congratulations!Your perseverance has paid off and you have made it to the end of the journey;this will be the final post for The Bank Slate blog. Achievement unlocked! Thisfinal installment promises to be at least as funny as the last Seinfeld, and as unambiguous as the lastSopranos.
Whenthis blog started, bank stocks had enjoyed a big rally based largely on afailure of bears' worst fears to come to fruition, aided by the anticipation ofan eventual normalization of interest rates. Fast forward nearly seven yearsand … huh. That seems like a metaphor for something. Or many things, perhaps.
Lookingback, the blog focused more on the regulatory environment than I'd haveanticipated. In part, that reflects the difficulty of picking topics whiletrying to avoid conflicts. In my day job, I get to speak with lots of bankexecutives, investors and analysts, and they are all entitled to the assumptionthat what we discuss will remain private. Erring on the side of caution thererules a lot of interesting things out of bounds.
Mostly,though, I'd say it reflected the heightened post-crisis dominance of regulatoryfiat over other factors affecting the banking industry. Banks have long beenheavily regulated, but since the financial crisis the degree of active controlover basic strategic and capital allocation decisions has reached a point wherebanks seem more like quasi-nationalized entities than private enterprises.
Ironically,had this blog been written in the seven years preceding the financial crisis,in all probability (judging by what I wrote elsewhere at the time) it wouldhave been heavily focused on the foolishness of empire-building bankmanagements, and even sometimes argued for a firmer regulatory hand. But you goto print with the systemic dysfunction that you have.
Lookingat the glass as half-full, it remains well within the realm of possibility thatthe U.S. economy starts growing a little faster, keeping a wholesale increasein credit costs at bay and allowing interest rates to grind higher. In thatcase, the banking industry may consistently earn a return above its cost ofcapital, and live more or less happily ever after.
Thereis much to be said for looking at the glass as half-empty, though, even leavingaside the cyclical risk that credit turns down before rates turn up.
Evencommunity banks, whom everyone professes to love, have struggled to securesignificant regulatory relief in recent years. There is a constituency for theeasy availability of cheap credit, and a constituency for insulation from therisks inherent in the easy availability of cheap credit — goals that are intension with each other if not outright contradictory. It is difficult todiscern a constituency outside of the bank industry, and investors therein, forfacilitating the availability of credit at returns that make the projectsustainable over the long haul.
Thepolitical class proposes to square this circle through the efforts of whatDavid Halberstam ruefully called the best and the brightest, and what iscurrently peddled anew with even more superlatives (albeit stripped of theirony) by Donald Trump, with promises to address problems with the best,smartest people with the most YUGE brains.
Theidea that any problem is solvable if we can only get the most talented peopleto build just the right system is an alluring one. If we can just let the rightgroup of experts apply government power with the requisite delicacy, and getcapital levels to the right point, and apply these but not those criteria tocredit decisions in the right weightings, and tweak compensation structuresjust so, maybe we can get all the credit needed to support the growth we wouldlike, without risking financial crises.
Theparticular iteration of this faith, and the misery it begat, catalogued byHalberstam could conceivably be viewed as a good faith error amid an epoch ofnaïve optimism. A half-century on, one would imagine we should know better.
Ifthere is a silver lining to this cloud, it is perhaps the heightenedprobability that the next financial crisis will lie more fully at the doorstepof central planners, maybe even too much for responsibility to be as completelydeflected into industry as in the wake of the last crisis, and thus restore amore tenable balance between the two. Even victors are by victories undone.
Inthe meantime, banks, particularly community banks, have little choice but tokeep grinding down their expenses, hopefully taking out more fat than muscle,hopefully sustaining enough loan growth to offset margin pressure, andhopefully not getting largely disintermediated by the emergence of sometechnological platform that serves their customers more cheaply (and maybewithout investors demanding returns in excess of the cost of capital, at leastfor now). That demands an awful lot of hope.
Sucha constrained set of opportunities should ostensibly incentivize a great dealof consolidation in the industry, but even that is a less reliable driver ofincremental shareholder value than in the past.
Giventhe relative paucity of deals of any size, and the slower pace of regulatoryapproval, one might expect that only the most solid transactions would come tofruition, but there have been too many deals frowned upon by the market inrecent quarters to believe that any longer.
Historically,plausible EPS accretion was usually enough to win the market's favor, and whileone can argue that the market was therefore not paying enough attention to theimpact on tangible book value, I have to confess that I have been verysurprised by just how allergic the market has become to tangible book dilution.
Presumablythe magnitude of the market reaction to, say, KeyCorp's acquisition of First Niagara is not purely a reflection of thefundamental merits of the transaction. Markets are reasonably efficient, but itseems clear that at least some shareholders felt misled by management withrespect to potential acquisitions and decided to take their lumps and get out.
Tothe extent that it wasn't driven entirely by fundamentals, it may have createdan opportunity for subsequent buyers — I offer no view here on this prospectbut note that there are some smart people making this case. Even if one grantsthis, however, the market reaction to this and several other transactionsrequires that we recalibrate our understanding of what the market demands of amerger, which has implications for both deal volume and general valuations.
Asregards volume, we likely need to temper our expectations in the near term,since so many bids that acquiring managements have found acceptable, the markethas not.
Thisalso suggests that the increasing profile of activist shareholders in bankingmay produce much less than hoped for. The New York Community-Astoria Financial transaction was clouded by the concurrentbalance sheet restructuring and dividend cut announcement by the acquirer, butthe fact remains that activists who successfully catalyzed a sale cannot havefelt handsomely rewarded by the bids elicited.
Itis difficult not to wonder whether increasing pressure on may prove equally futile.Investor frustration is certainly understandable — long-term holders may havebeen waiting for nearly a decade at this point for the interest rateenvironment to bring some relief to such an asset-sensitive balance sheet, andinstead now face the prospect of energy sector credit headwinds.
Yetthe list of merely plausible buyers of a superregional bank that happens to bestructurally ill-suited, by business mix and geography, to lower-longerenvironments in interest rates and energy prices, is a short one. The paucityof bidders alone would tend to keep bidding from becoming too heated, even ifthe asset sensitivity and energy exposure wouldn't (but, spoiler alert: theywould).
The Wall Street Journal reports that my old boss, MikeMayo, is himself taking a more activist tack regarding , which leads meto assume that he has done a good deal of work to establish what Comerica mightfetch in a sale, so maybe he's right and I'm wrong (neither of those conditionswould be unusual).
Morebroadly, though, I have to wonder if the higher bar set by the market foracquisitions doesn't mean that a lot of the names bandied about as likelytargets aren't already pricing in most of or even more than whatever takeoverpremium the market is prepared to countenance.
That'snot a very encouraging thought. But I can't say I've had many reallyencouraging conversations about the industry outlook of late.
Well,as former GoldmanSachs CFO David Viniar regularly and almost always correctlyobserved, things are never really as good as they seem, and things are neverreally as bad as they seem. The glass-half-full scenario may yet carry the day.
Iknow many readers whom I will continue to see around at conferences and thelike. If you are not among them, feel free to drop me a line firstname.lastname@example.org, or follow me on Twitter @TheBankSlate (pending some newname). Either way, thank you for honoring me with your time in reading myramblings over the past six-plus years.