buy bank stocks on the dip

[chasesfish]

Add the qualified dividend tax treatment to the list of reasons the preferred stocks trade for a lower yield than the bond.

[ChpBstrd]

On IB at least, I can't buy small amounts of the bonds - minimum purchase seems to be $250k face value. Retail investors would therefore be locked out of the bonds, only be able to trade the prefs and drive up prices?

I see a handful of these with $250k minimum purchase sizes, and they are priced the cheapest. There are still several issues by Huntington, Zion, and others with attainable minimum quantities. Make sure to get quotes during US market hours, given your time zone difference.

I'm not necessarily interested in actually buying these, I just find it informative to know what the return is for this level of risk on the continuum between FDIC-insured CD, bonds, preferred stock, and common stock.

Add the qualified dividend tax treatment to the list of reasons the preferred stocks trade for a lower yield than the bond.

Yes, this is a big deal too. As someone with most assets in IRAs and a lower tax bracket than most market participants, I keep looking for the bargain in bonds with poor tax treatment and not finding them. Side note: it would be an interesting academic study to calculate the average tax bracket of the average investor we are competing against.

I tend to agree with the market that bank outcomes will usually be binary - a good return or zero - regardless of which instrument is used.

Bank bonds are attractive mainly from a false sense of safety and as an anchoring point to understand the firm's current cost of capital. So the preferred and common stocks are the primary objects of my interest. Today I'm starting to pivot around to being more interested in common stock. What's the point of usually-callable preferred shares when common shares from RF, KEY, HBAN, USB, and FITB yield between 4.5% and 8%, have single-digit PE ratios, and can be hedged with options so that your outcome is not binary?

I think the empty office properties situation still has at least a year to play out, and that it may be followed by a residential RE situation. I'm not at all convinced by the recent rally in bank stocks (though I do hate that I sold OZKAP at the bottom - ouch). Conditions are not yet bad for most of the banking sector and the much-rumored credit tightening has yet to show up in the National Financial Conditions Index. The time to make a large allocation to (surviving) banks will be sometime after the NFCI goes above zero.

[Michael in ABQ]

I decided to buy a few more shares of BOHPRA with the remaining cash in my account and I setup a limit order last night just below the closing price yesterday at $15.40. It looks like it opened slightly above that today but dipped down to $14.67 and that's where my order was filled. Now it's back up to $15.54. My savings/gain equals about what I make at my day job in the time it took to type this out but it's always nice to get a little win. With my average cost basis at $13.69 it's just about an 8% yield.

[chasesfish]

@ChpBstrd - I've been wondering something similar on bank common stock.  Once I've seen 20-45% gains in some of these prefs, does it make sense to move over to the common that hasn't adjusted?   6%- 7% with a less than 1% premium over BofA just isn't exciting to me.

[chasesfish]

Good article interviewing Down Range Capital Management, one of the industry investors

https://www.spglobal.com/marketintelligence/en/news-insights/latest-news-headlines/bearish-bank-investor-turns-bullish-75869530

[reeshau]

Bloomberg points out this morning that EU too big to fail banks are trading lower than US regional banks.

[ChpBstrd]

Good article interviewing Down Range Capital Management, one of the industry investors
https://www.spglobal.com/marketintelligence/en/news-insights/latest-news-headlines/bearish-bank-investor-turns-bullish-75869530

Any claim that a bank is a bargain is based on a number of historical assumptions that may or may not turn out to be true, much like the assumptions around bundled mortgages and credit default swaps of 2005-2008. Had the article dug deeper into the case for regional banks being a bargain, it would find line-in-the-sand assumptions about the maximum possible default rate, level of interest rates, and collateral repricing. If those lines will be violated, the assessment is wrong. Such lines were routinely crossed in 2008, along with a lot of things that never happened before in history.

I noticed a couple of new milestones today:

1) The futures market now implies a slight probability (odds = 50.5%) of another rate hike on June 14. Until now the markets (and I) had thought we were at our terminal rate in May. The futures market is also quickly retreating from predictions of rate cuts by the end of this year. If this is the evolving consensus, we could start to see trends toward un-inversion of the yield curves. That traditionally happens shortly before a recession.

2) JP Morgan is now offering 5.576% for a CD expiring 9/2024 (CUSIP: 46656MCT6). As far as I can tell, this is a new high, and it's not even being offered by a troubled regional bank like PACW, WAL, COM, or ZION. Why does JPM, of all banks, need to raise funds at such high rates, unless they are forecasting a much higher FFR or bumpy times ahead? I wonder how exposed they are to a negative outcome on the debt ceiling standoff through their derivatives business or through counterparties' collateral? Sounds to me like Jamie Dimon had someone do the math on a brief default and it came back as a disaster for JPM, so the order was given to raise a bunch of money fast. If rates are hiked in June, these sub-6% CD rates might seem cheap in hindsight. Dimon is making hay while the sun still shines.

[chasesfish]

Higher rates are better for banks.  Inflation is better for real estate heavy banks. 

Both of these are good until they cause a crippling recession.   How all of that is balanced will be interesting.

[Weathering]

Any idea how to get access to the FDIC list of 43 troubled banks? (I’m guessing it is highly confidential because it could cause a run on deposits at banks on the list).
I’m especially interested in CFG, KEY, and HBAN

On a different note, today I bought a small amount of senior unsecured bonds in Citigroup at a YTM of 6.22 (maturity in 2098). Locking in a decent yield at a too-big-to-fail bank for (hopefully) the rest of my life.

Last note, do any of you buy federal farm bank or federal home loan bank (agency) bonds? Their ratings are AA/AAA but I’m starting to get a large enough position in them (yielding 6% and state tax free) to want reassurance the US govt won’t abandon them.

[ChpBstrd]

Any idea how to get access to the FDIC list of 43 troubled banks? (I’m guessing it is highly confidential because it could cause a run on deposits at banks on the list).
I’m especially interested in CFG, KEY, and HBAN

According to Investopedia the problem bank list is confidential.
FDIC enforcement decisions and orders can be searched at https://orders.fdic.gov/s/searchform .
A "failed bank list" can be found at https://www.fdic.gov/resources/resolutions/bank-failures/failed-bank-list/ .
Probably the shorthand method of finding out which publicly traded banks are on the list would be to review the YTD performance of all the banks, and look for those with the worst performance. Let the analysts do the work for you. Chances are, most of the 43 are on the following list.

List of 50 worst-performing bank stocks:

Symbol   Name   Performance vs. S&P 500(YTD)
SBNY   Signature Bank   -100%
SIVBQ   SVB Financial Group   -100%
FRCB   First Republic Bank   -100%
SICP   Silvergate Capital Corp   -95%
HMST   HomeStreet Inc   -81%
FFWM   First Foundation Inc   -74%
PACW   PacWest Bancorp   -73%
FHN   First Horizon Corp   -60%
TBNK   Territorial Bancorp Inc   -59%
EGBN   Eagle Bancorp Inc   -58%
CVBF   CVB Financial Corp.   -55%
INBK   First Internet Bancorp   -54%
BWB   Bridgewater Bancshares Inc   -54%
BMRC   Bank of Marin Bancorp   -53%
BOH   Bank of Hawaii Corp   -53%
SFST   Southern First Bancshares Inc   -53%
MCB   Metropolitan Bank Holding Corp   -52%
RBB   RBB Bancorp   -52%
ISTR   Investar Holding Corp   -52%
PFC   Premier Financial Corp (OHIO)   -52%
DCOM   Dime Community Bancshares Inc   -51%
PEBK   Peoples Bancorp of North Carolina, Inc.   -51%
LNKB   LINKBANCORP Inc   -51%
INDB   Independent Bank Corp (Massachusetts)   -51%
HFWA   Heritage Financial Corp   -50%
WASH   Washington Trust Bancorp Inc   -50%
FGBI   First Guaranty Bancshares Inc   -49%
CMA   Comerica Incorporated   -49%
AROW   Arrow Financial Corporation   -48%
CNOB   ConnectOne Bancorp Inc   -48%
KEY   KeyCorp   -48%
IBTX   Independent Bank Group Inc   -48%
BKU   BankUnited Inc   -47%
ZION   Zions Bancorporation NA   -46%
HTBK   Heritage Commerce Corp.   -46%
WAL   Western Alliance Bancorporation   -46%
NASB   NASB Financial, Inc.   -46%
OPOF   Old Point Financial Corporation   -46%
FLIC   First of Long Island Corp   -46%
FIBK   First Interstate Bancsystem Inc   -46%
HONE   HarborOne Bancorp Inc   -45%
GBCI   Glacier Bancorp, Inc.   -45%
HAFC   Hanmi Financial Corp   -45%
BRKL   Brookline Bancorp, Inc.   -45%
MCBI   Mountain Commerce Bancorp Inc   -45%
SASR   Sandy Spring Bancorp Inc   -45%
SFBS   ServisFirst Bancshares Inc   -45%
WNEB   Western New England Bancorp Inc   -45%
BCBP   BCB Bancorp Inc   -44%
FFIC   Flushing Financial Corp   -44%

On a different note, today I bought a small amount of senior unsecured bonds in Citigroup at a YTM of 6.22 (maturity in 2098). Locking in a decent yield at a too-big-to-fail bank for (hopefully) the rest of my life.

Last note, do any of you buy federal farm bank or federal home loan bank (agency) bonds? Their ratings are AA/AAA but I’m starting to get a large enough position in them (yielding 6% and state tax free) to want reassurance the US govt won’t abandon them.

I think both of those ideas are very attractive and will begin watching them.

The Citigroup 2098 maturity bonds (CUSIP: 172967AS0) have such massive duration they could rally hard if rates are cut in the next few years and Citi still does OK. Of course, the reverse is also true. The big kicker is they're non-callable!

Those agency bonds are widely considered to have government backing, which is why they're AAA. The last time I looked at these, it seemed like their yields were roughly on par with treasuries, so I was unimpressed. But WTH is happening now!? Perhaps the debt ceiling debacle has led to a fire sale by panicked investors who are afraid these would be the first government obligations to default, or might not be covered by a possible 14th amendment defense from the Biden administration. Or perhaps the market is reacting to the risk of a wave of failed real estate loans. Or maybe the market for swaps or other hedges has dried up.

Such concerns are overblown for long-duration investors because any default would be short-lived out of political necessity, and so the yields you are seeing probably represent a chance to pick up AAA credit at bargain bin prices. TRACE data shows somebody obtained a 6.933% yield from one of these agency bonds on 5/24. Yes please, I'll have what they're having! 

[bluecollarmusician]

No kidding- those yields over a long time frame seem very attractive!

[chasesfish]

Just chiming into say the YTD stock price is a great way to pull a list.   80-90% of those banks have some serious capital challenges. 

I only saw a few outliers, like $FHN getting repriced as a regional vs. a Canadian bank when the feds say No to the Canadian merger and $BOH just coming back to reality from a 2.5x tangible book value. 

[Weathering]

I’m starting to think the troubled bank list includes the names of much smaller banks. The FDIC says the total assets of the troubled banks is $58B. Many of the regional banks have far more assets than that, so they couldn’t be on the list. I’m sure they have problems, but maybe not big enough to be on the list.

In the last hour of trading today, I sold my HBANP shares. I set a limit order to $18.90 and it sold a little while later.
If it dips then I might buy it back because I don’t really have plans for the money that was freed up from selling it.

[chasesfish]

Selling HBANP was a great move.

My chart now auto populates a risk premium over BAC to compare yields to.   I've unloaded HBANP and RF-E when the risk premium was less than a half percent above BAC and lightened up on BOH-A when it was down to 1% over BofA.   

The FNH-F still has a little ways to go (1.77% over BAC today) and a few smaller issuances still paying more than 2.5%.

There's plenty to like on any good deposit franchises and competent lenders you can find in the common stock, but I don't think there's going to be a rush.   Even the good smaller banks are terrible at marketing their stock, they tend to stick their head down and just keep making money.   It's also tough for a bank to buy back stock right now and defend the price, especially when the alternative is hang on to the capital and get some 6%+ yielding assets and be overcapitalized just in case the fed drives this thing off a cliff with continued rate hikes.

[ChpBstrd]

@Weathering tuned me into agency bonds, which are for some reason now trading at a large discount to similar-duration treasuries. I picked up 20 Aaa rated Federal Farm Credit Bank Bonds at a 6.24% yield until 2038. I might pick up more. I paid less than a grand per bond, but these bonds sold for $1500-$1600 each in the days of ZIRP.

These agency bonds seem like the perfect trade here at the pivot point, when the Fed is near the end of its rate hiking cycle, when a credit crunch could be coming, and when the definition of "don't fight the Fed" could be changing. They offer an unusually large real yield on Aaa assets, and these seem like a good place to hide and watch the SHTF in banking and real estate. If these bonds are called away, it will be because rates are falling and it's time to pivot into growth stocks.

[bluecollarmusician]

  It's also tough for a bank to buy back stock right now and defend the price, especially when the alternative is hang on to the capital and get some 6%+ yielding assets and be overcapitalized just in case the fed drives this thing off a cliff with continued rate hikes.

Maybe prescient advice for individuals in this environment? There is a real strong appeal to some of these sweet looking bond yields (as there was to nicely priced preferred's a few weeks ago.) I guess the "thing" is interest rate variability- positive yielding returns are "better" for everyone not saddled with a bit pile of debt, but everyone seems to be pining for a return to lower interest rates.  It seems to me what would benefit everyone is price stability (i.e. low and consistent inflation) as well as stability in interest rates.  It's not that rates are that high, historically now- it's that went up so fast, after be so low for so long.  While it does feel like we are at a pivot point, getting locked in now could hurt real bad if inflation picks up steam again. 

What say you friends?  Lock in yields now as we expect them to lower over time?  Wait and see if we get another rate increase?

[bluecollarmusician]

These agency bonds seem like the perfect trade here at the pivot point, when the Fed is near the end of its rate hiking cycle, when a credit crunch could be coming, and when the definition of "don't fight the Fed" could be changing. They offer an unusually large real yield on Aaa assets, and these seem like a good place to hide and watch the SHTF in banking and real estate. If these bonds are called away, it will be because rates are falling and it's time to pivot into growth stocks.

Yes, I see the appeal.

Another one, that carries it's own risks are the CITI preferred's you mentioned upthread- I have held those for several years, and while they are priced high (above their call price) they are floating with interest rates now, which gives some protection in a rising rate environment... and if rates drop they still look pretty good, just not AS good.

Another issue I have been watching is the NLY G series, which just switched to floating- it is priced under the F series which has a slightly higher yield, but the G series will be slightly less likely to be called. I know this is the bank stocks dip thread... so this is moving away from topic...sorry....

Of course, this carries it's own set of risk, but these carry some protection in case rates aren't quite done going up. But on the con side- they don't have the tax benefits that the preferred shares have, and not as safe as the bonds... so what's a girl (or boy, or person ftm) to do?

Thoughts?


Of course, the real best thing would have been all in on Nvidia a few months ago :-/ 

[ChpBstrd]

These agency bonds seem like the perfect trade here at the pivot point, when the Fed is near the end of its rate hiking cycle, when a credit crunch could be coming, and when the definition of "don't fight the Fed" could be changing. They offer an unusually large real yield on Aaa assets, and these seem like a good place to hide and watch the SHTF in banking and real estate. If these bonds are called away, it will be because rates are falling and it's time to pivot into growth stocks.

Yes, I see the appeal.

Another one, that carries it's own risks are the CITI preferred's you mentioned upthread- I have held those for several years, and while they are priced high (above their call price) they are floating with interest rates now, which gives some protection in a rising rate environment... and if rates drop they still look pretty good, just not AS good.

Another issue I have been watching is the NLY G series, which just switched to floating- it is priced under the F series which has a slightly higher yield, but the G series will be slightly less likely to be called. I know this is the bank stocks dip thread... so this is moving away from topic...sorry....

Of course, this carries it's own set of risk, but these carry some protection in case rates aren't quite done going up. But on the con side- they don't have the tax benefits that the preferred shares have, and not as safe as the bonds... so what's a girl (or boy, or person ftm) to do?

Thoughts?


Of course, the real best thing would have been all in on Nvidia a few months ago :-/

"Don't lose money" comes to mind, lol.

Every time I'm tempted to buy a fat yield, I take another look at the history of the Federal Funds Rate and recessions, take a breath, and vow to let the bargains come to me instead of jumping in before the recession even starts. No freaking way this ends well!

My post-2020 rule of thumb was that if I ever again saw 7.5% returns offered on relatively low-risk preferred stocks (as measured by PGF or PFF), I should go all in on them. Preferred funds never got that cheap in April or May, but several specific preferreds did, like the ones we talked about from BOH, OZK, RF, etc. I chickened out of a couple of 7.5%+ preferred bets when PacWest reported their deposit flight was continuing. But then that turned into a nothingburger.

It's very nice to be paid to wait. I have treasuries and CDs yielding 5% that expire later this summer and fall. Now treasuries can be had for 5.4%. Then there are 6.2% agency bonds like I just bought, and blue-chip corporate bonds like those 2098 Citigroup issues discussed above. I want to lock in the benefits of high rates while they last, but things just keep getting better for people with lots of cash or safe haven investments.

[bluecollarmusician]

"Don't lose money" comes to mind, lol.

Haha, yes love it- and too true.

I also follow PFF, etc but the rates never got where I felt compelled to make the plunge.  I picked up some preferred shares on the dip- but I definitely didn't go all in- too much chance for everyone to take another dump if PACW had gone down.  Hindsight is 20/20 and certainly now it seems like it would have been the moment to back the truck up- but I don't know they are all out of of the woods yet.

With Short term treasuries being where there I are- much like you- I am inclined to bide my time and wait.  Although with inflation being so much higher, while I might "feel better" about it, I am not sure than I am really better off than I was with idle cash in ZIRP.

We'll see. 

[ChpBstrd]

Here's an interesting report on the status of CRE loans: https://www.spglobal.com/marketintelligence/en/news-insights/latest-news-headlines/cre-loan-delinquency-rate-at-us-banks-rises-sharply-75884506

Highlights:
Delinquencies are rising, but are still low compared to 2020-2021.


"A total 576 US banks exceeded regulatory guidance on CRE loan concentration by the end of the first quarter, an increase of 30.3% compared with a year earlier.

Regulators increase their scrutiny of banks that exceed either of two thresholds: construction loans with at least 100% of risk-based capital, or CRE loans with at least 300% of risk-based capital levels and 50% growth in CRE over the past 36 months."


This list of 20 CRE topheavy banks almost certainly appear on the FDIC's troubled banks list. @chasesfish may be able to offer some color here. Seeing OZK on this list makes me feel better about my decision to exit OZKAP, even if my exit was poorly timed. VLY, AX, and WAFD look arguably worse than PACW.

[Weathering]

A little off topic because this is an insurance company, rather than a bank, but today I bought a very, very small amount of senior, unsecured bonds in Lincoln National Corporation (matures in 2040, 6.77% YTM). I’ve done some further diligence since then and I’m regretting the purchase a little. However, it is such a small amount that it’s better for me to focus on other things (banks) rather than trying to undo this purchase.

[chasesfish]

@ChpBstrd

We need more time to know what the data is telling us.  0.8% is nothing when it comes to CRE delinquencies.   Realistically 2% in delinquencies classified assets in CRE is nothing.  (CRE isn't the entire loan book and it's all secured lending, so a 2% delinquency may mean a 20-30% haircut on that 2%, we're still talking chargeoffs of less than 0.50%, which is recessionary but not crippling against a 1% to 1.2% problem loan reserve that gets built / maintained every quarter.   5-10% CRE delinquencies is when you get into the math of 1-2% charge off rates, which becomes a real problem. 

Here's the big reason I think the data is early:   Bank lending does three to five year deals on it's construction loans.  They underwrite 12-18 months to build a project, maybe some stabilization time, then principal and interest payments until maturity.  The reason CRE loans are growing so much is projects aren't being sold at completion or refinanced into the non-recourse permanent market (CMBS, Life Insurance, Fannie/Freddie) like they have been over the prior few years.   This ballooned up the CRE balances and is shutting off new lending. 

The consequence of this really could go either way, for the banks at conservative loan to values and variable rate loans, they're enjoying being paid 8%+ interest while the equity holders decide what to do.   The more aggressive lenders?  They may take haircuts on deals.


One other comment:  This will be much slower than 2008.

2008 bank issues involved residential construction and development lending.   They only generate cash flow when a property sells and the residential market just locked up.  Until a house sells, it produces grass.   The valuation haircuts here were 75%+

A 70% office building at 2023 rates vs. 2019 rates still generates cash flow.   A multifamily property that's overleveraged still generates cash flow.    Valuations come down slower and aren't as severe when properties still generate cash flow.   

I passed on working on a deal recently:   Borrower owes $3.7mil, today it can only support $2.25mil in performing debt.   Bank probably needs to take a $200,000 to $500,000 haircut if they want the borrower to sell the property or if they want to sell the loan.   30,000sqft suburban two story Atlanta office building, +/- 100% full, they were just making a lot more on the 30% anchor tenant five years ago than they are today.   The property still generates 250k/year in cash flow with some contractual increases that gets it up to near 300k in 2025.    The Bank an either decide to hold a classified loan on their books for eighteen months and hope it gets better or sell the loan for a 15% loss this year.     That's not an apocalyptic scenario for the bank, much more painful for the owner who has a $5.2mil cost basis in the property.

[ChpBstrd]

@ChpBstrd

We need more time to know what the data is telling us.  0.8% is nothing when it comes to CRE delinquencies.   Realistically 2% in delinquencies classified assets in CRE is nothing.  (CRE isn't the entire loan book and it's all secured lending, so a 2% delinquency may mean a 20-30% haircut on that 2%, we're still talking chargeoffs of less than 0.50%, which is recessionary but not crippling against a 1% to 1.2% problem loan reserve that gets built / maintained every quarter.   5-10% CRE delinquencies is when you get into the math of 1-2% charge off rates, which becomes a real problem. 

Agreed. The financial media headline said "up sharply" but then you go to the source and look at the bigger picture and it's nothing.

Here's the big reason I think the data is early:   Bank lending does three to five year deals on it's construction loans.  They underwrite 12-18 months to build a project, maybe some stabilization time, then principal and interest payments until maturity.  The reason CRE loans are growing so much is projects aren't being sold at completion or refinanced into the non-recourse permanent market (CMBS, Life Insurance, Fannie/Freddie) like they have been over the prior few years.   This ballooned up the CRE balances and is shutting off new lending. 

The consequence of this really could go either way, for the banks at conservative loan to values and variable rate loans, they're enjoying being paid 8%+ interest while the equity holders decide what to do.   The more aggressive lenders?  They may take haircuts on deals.

Interesting. So what you're saying is most of these 3-5 year construction loans are paid off early (e.g. at 24 mos) when developers switch to lower rate conventional loan/mortgage? But now that rates have risen, the math doesn't work out on refinancing, so they're stuck with the construction loan, which has an expiration date approaching within a couple of years. Rates have risen so fast I bet a lot of these construction loans have better rates than the owners could get with permanent loans.

If the developments don't qualify for a regular loan by their loans' due dates (e.g. after inflation raises rents and more tenants are theoretically obtained) then the developer may not be able to repay or refinance the loan. At that point the negotiations begin on who takes how much of a haircut.

One other comment:  This will be much slower than 2008.

2008 bank issues involved residential construction and development lending.   They only generate cash flow when a property sells and the residential market just locked up.  Until a house sells, it produces grass.   The valuation haircuts here were 75%+

I don't think we can assume residential defaults won't rise soon. Housing affordability is now worse than it was prior to the GFC.

It is interesting to see CRE struggling right now, while residential RE values are still holding up. If a CRE crisis moves slower than a residential RE crisis, then one scenario is that the residential crisis starts a little later and both hit the banks with peak intensity simultaneously.

A 70% office building at 2023 rates vs. 2019 rates still generates cash flow.   A multifamily property that's overleveraged still generates cash flow.    Valuations come down slower and aren't as severe when properties still generate cash flow.   

I can see how the presence of any positive cash flow could string out the refinancing or foreclosure/sale process. It seems like this would tempt banks into offering longer-term or interest-only loans, which would allow the property to break even on lower payments now while waiting for inflation and growth to raise rents in the future.

However, CRE margins might be slim on many properties, and higher rates and vacancies might have tipped a lot of them into negative cash flow. How many CRE buildings were capitalized at near-breakeven margins as a way to speculate on growth? That's what has been happening with rental real estate in HCOL areas, so I'd be surprised if the logic didn't extend to office, retail, industrial, apartments, etc.

However, I also suspect a lot of illogical projects have been built or refinanced over the past several years of excess. Making construction loans made sense for banks when owners would refinance and free up their capital after a year or two, but now banks are stuck with these loans for longer than expected. The projects themselves only made economic sense in a world of low interest rates and assumed levels of occupancy, and will be cash-flow negative if refinanced at today's rates.

I predict WFH will continue to depopulate offices, online retail will continue to depopulate physical retail, and residential owner-occupied RE will hit an affordability ceiling as unemployment rises. I'm actually relatively bullish on apartments, because the homeowners getting foreclosed will have to move somewhere and will offset demand destruction at the lower end. But even apartments have their profitability hanging by a thread and dependent upon their ability to refinance the debts taken on at the peak of this cycle. 

The whole configuration of banks, RE, and interest rates looks a lot like 2006-2007.

[reeshau]

I don't think affordability tells the whole story; much different from 2008 is the amount of equity in homes today.  2.1% of motgaged homes are under water today.

https://www.corelogic.com/intelligence/homeowner-equity-insights-q4-2022/

Instead, the average homeowner has $148k of equity--reasons to stay, or modify in an orderly way, rather than just hand over the keys.

Alternately, on the commercial side, the Wall Street Journal has an article today on how interest-only loans ramped up starting in 2012, and made up 80% of all securitized transactions since 2019.  Definitely an accelerant of trouble caused by the interest rate rise.

[RobertFromTX]

I've put no macro analysis in to this. All I know is I bought back two banks at 1.0x/tbv that I used to own at 1.7x/tbv. (two banks are too small to ever get mentioned in a tweet or article)

Nonaccruals, charges-offs, heisted ATM's... its all part of the business. I know the management teams are solid and everything else will work out eventually.

I plan to start unloading at 1.3x/tbv and we're starting to get close in one of them.

[Michael in ABQ]

However, CRE margins might be slim on many properties, and higher rates and vacancies might have tipped a lot of them into negative cash flow. How many CRE buildings were capitalized at near-breakeven margins as a way to speculate on growth? That's what has been happening with rental real estate in HCOL areas, so I'd be surprised if the logic didn't extend to office, retail, industrial, apartments, etc.

However, I also suspect a lot of illogical projects have been built or refinanced over the past several years of excess. Making construction loans made sense for banks when owners would refinance and free up their capital after a year or two, but now banks are stuck with these loans for longer than expected. The projects themselves only made economic sense in a world of low interest rates and assumed levels of occupancy, and will be cash-flow negative if refinanced at today's rates.

I predict WFH will continue to depopulate offices, online retail will continue to depopulate physical retail, and residential owner-occupied RE will hit an affordability ceiling as unemployment rises. I'm actually relatively bullish on apartments, because the homeowners getting foreclosed will have to move somewhere and will offset demand destruction at the lower end. But even apartments have their profitability hanging by a thread and dependent upon their ability to refinance the debts taken on at the peak of this cycle. 

The whole configuration of banks, RE, and interest rates looks a lot like 2006-2007.

I used to be a commercial real estate appraiser. It was very rare to see commercial properties financed at more than 70-75% loan to value. Usually, lenders required debt service coverage ratios of 1.35x or higher. Apartments were the exception as they might get up to 80% or higher LTV and DSCR of 1.25x. On the other hand, apartments tend to be safer as losing a single tenant might mean a 0.5% drop in revenue (on a 200-unit complex) an office/retail building can lose one tenant that occupies 30-40% of the space and immediately be in trouble. Also, there's far less risk in leasing up a newly built apartment complex compared to a retail or office building. I've seen many of the latter with empty space that takes years to finally lease out for the first time.

There are some properties that will lose one or more large tenants and be in trouble, but the rest will be able to muddle through - even if it means extending the term of a loan or taking a small loss. There's a pretty good infrastructure in place for managing cash-flowing commercial properties that run into trouble to ensure lenders don't take a huge loss. Residential is a lot harder since any individual home is not that meaningful in the big picture to a lender so it's a lot easier for them to sit in limbo for months or years before finally getting sold.

[chasesfish]

@ChpBstrd

On vacation so only a few comments coming in this week.

"Why aren't the loans rolling off the bank's books early"

The permanent sources of commercial real estate capital have expensive transaction costs (2-3% of the loan amount) and stiff prepayment penalties.   The bank's variable rate may be painful at 8%, but if the alternative is getting a 6.5% fixed rate after paying 2-3% and signing up for a 5-10 year prepayment penalty, borrowers are deciding to hang with the bank deal to see how the market and rates shake out over the next few years.   The prepayment penalties in the permanent market are often defeasance or yield maintenance, which are costly to break.    Paying a little more for the option to prepay is better for now.

"The bank can just make an interest only or low interest loan"

No.  Basically if a bank gives any concession to a troubled borrower it wouldn't give to a normal borrower, the loan gets classified as a Troubled Debt Restructure (TDR) and those are bad.  My institutions stance was they'd rather sell the loan and take a hit instead of absorb a TDR because they were so punative.  I don't understand the ins and out, but here's the FDIC bulletin on it if you're interested.

https://www.fdic.gov/regulations/examinations/supervisory/insights/sisum12/sisummer12-article4.pdf

[ChpBstrd]

Thanks for the insights @Michael in ABQ and @chasesfish . Based on the points you made, would it be accurate to say the following?

1) Many CRE owners are betting everything on a sudden fall in interest rates that will allow them to refinance later. If rates go up instead of down, these borrowers will be even worse off than if they had refinanced today.

2) As more and more CRE developers hold onto their construction and development loans, bank liquidity is constrained and it is harder for banks to make new loans.

3) As more and more CRE developers hold onto their C&D loans, often at variable rates like 8%, banks benefit from the boost to their margins and reduced reliance on fixed-rate loans.

4) CRE owners who plan to refinance later may see their plans derailed if they lose tenants and are unable to meet debt service coverage ratios OR if property values go down and they are unable to meet loan-to-value standards. I'm thinking about a shopping center near me that just lost Bed Bath & Beyond as an anchor tenant, and might have 30% of their space un-leased for the next couple of years. Basically, the same economic climate that would cause rates to go down is the one that would cause CRE owners to be unable to refinance due to vacancies and rent defaults, right?

5) Banks cannot grant such CRE owners an extension on the term of their original loans, even if it is in their mutual interest, without the loans being labeled a Troubled Debt Restructure. Per the FDIC bulletin, extensions are specifically called out as a reason to categorize a loan as TDR if they are done for the reason that "the borrower would be in payment default on any debts in the foreseeable future without the modification." So even a minor dip in DSCR or a minor uptick in LTV would often result in the borrower being unable to refinance at the end of their original term, right? The "any debts" part seems particularly restrictive, because CRE owners have no choice but to default if they cannot get their next loan.

6) Banks' ability to make new loans is constrained by a) lots of existing C&D loans languishing on the books for longer than expected, versus regulatory limits on leverage, b) losses from defaulted loans or the sale of soon-to-be TDR loans, c) limits on the minimum levels of equity and debt coverage in new loan deals, and d) the banks' own needs to de-leverage and de-risk portfolios to adapt to an era of higher interest rates and flightier deposits. In a recession, banks face pressure on their loan portfolios from defaults at the same time their liquidity is tied up by borrowers unable or unwilling to refinance, at the same time their deposit base and fee income declines, at the same time they seek to deleverage or hedge, and at the same time all the other banks are in the same boat and therefore unable to loan to each other or refinance each others' borrowers. It is a pro-cyclical industry with network effects that make it even more pro-cyclical, right? 

[reeshau]

@ChpBstrd , I don't think it leads to such a constraint as you lay out.  Banks can just sell the loans, if they need to free up capital.  That could include freeing up capital to make more, better loans--which may make up for the hit of selling current loans at a loss.

The loans that PacWest sold were construction loans.

https://www.reuters.com/markets/deals/pacwest-bancorp-sell-real-estate-loans-kennedy-wilson-subsidiary-2023-05-22/

[ChpBstrd]

@ChpBstrd , I don't think it leads to such a constraint as you lay out.  Banks can just sell the loans, if they need to free up capital.  That could include freeing up capital to make more, better loans--which may make up for the hit of selling current loans at a loss.

The loans that PacWest sold were construction loans.

https://www.reuters.com/markets/deals/pacwest-bancorp-sell-real-estate-loans-kennedy-wilson-subsidiary-2023-05-22/

In our current financially loose conditions they can fire-sale loans, but what about in the future? Who can they sell the loans to if conditions worsen and all the other banks are in the same boat?

[reeshau]

Conditions are loose?  I thought all this has happened because of how much the Fed has tightened...

All the banks need is some time to manage any over-exuberance.  The regionals have had their scare.  Every day/week/month before the office-pocalypse gives them time to address the visible, approaching risk.

[chasesfish]

@ChpBstrd

I'm going to answer your question in the most simple way I can...

If the 5yr Treasury stays below 4.5%, the banks will be fine. 

If the 5yr Treasury goes above 4.5%, we have issues in the CRE market caused by interest rates.

Why?

The regulators required all these loans to be tested against 6.5% - 7% interest rates.   Stress testing, every loan had it, it's part of underwriting, and it's part of an individual loan exam.   

A 4.5% treasury equals a 6.5% to 7% fixed rate.  The bank can go get funding in the 4.5% range for five years and make a bankable CRE loan for the 2% to 2.5% spread.   The bank can do a variable rate loan and make the client buy a swap, fixing the rate at 7% if the 5yr treasury is at or below 4.5%.

If we get above that number?  Lookout below.   It's a hit from both sides, deals stop working and the banks start taking bond marks again (or bigger marks) to their portfolio then they have.   The 5yr treasury cycled between 3.6% and 3.85% on the last round of bond marks causing issues in Q1.   There's been time to have some roll off and new ones added, it would take +/-4.5% to create the same type of shock that 3.85% did six months ago. 

[chasesfish]

Good afternoon dormant thread...

I exited all of my BOH preferred stock holdings.  The 5yr treasury broke 4% and I wasn't comfortable with the risk they'll be forced to raise equity or cut dividend.   I think it's a minor risk, but at a 7.25% yield I wasn't being compensated for that risk.   Didn't buy anything else with the money, just sitting on some cash.

I went on a podcast last month and the second half of it all we talked about was bank stock investing, here's the link if you want to listen:

https://www.securityanalysis.org/p/stop-ironing-shirts-stironingshirts#details

Otherwise kind of a boring month for banks.  I've been pleasantly surprised with a few of my holdings, one is stagnant, and the poorly run bank at a deep discount still has bailing shareholders causing the price to keep going down. 

Watch the 5yr treasury and where it closes for the quarter.  4% will mean new OCI losses.

[bluecollarmusician]

Thanks for the update- will check out the podcast.

[reeshau]

I don't know if it's dormant, so much as everyone is catching their breath.  It certainly seems like waiting for quarterly reports is pretty dull...

The WSJ has an article today that the SEC Seeks More Disclosure From Smaller Banks in Wake of Failures.  There could be some clues as to future regulation direction, plus similar additions from others, since the requirements and responses have been made public.

Includes on bank that just listed on NASDAQ in April!  It does have price history, so must have been pink sheets before?

[ChpBstrd]

Who'd have thought the 5y and 10y treasury rates in late June would be within a few basis points of where they were January 3? Long-term forecasts seem unchanged by a tumultuous half-year.

@chasesfish you probably took profits on bank preferreds while I chickened out and took losses! Congrats if that's the case.

If you have idle cash from the BOH-A sale waiting for the next opportunity, maybe consider parking it in SGOV. You earn close to the highest point on the yield curve right now (5.1%-5.2%, maybe rising) and there's no significant duration or credit risk. Yes, rolling your own short-duration treasuries position in a treasurydirect account might be 0.05% more efficient, but getting around to it... bleh.

The moment I thought the contagion was spreading (PACW report of deposit flight) everything turned around. Then again, both BOH and PACW took hits over the past 2 weeks. Do you think this was in reaction to the Fed's dot plot? Is anyone still paying attention to CRE or was that just a media scare narrative that ran its course?

[chasesfish]

@ChpBstrd - Yes, I mostly took profits in the preferreds and am mostly out.   My basket of commons is all over the place, the smallest ones being the most volatile.  Some of these things will grind higher them then some retail investor / family / estate will drop a market order of $75,000 in stock and tank the price 10%.

I still own some FHN Prefs and two smaller Southeast regionals that are paying over 8% (UCBI and AUB).   All three of them are attractive, but 8% is meh compared to getting in at 9.5%

As for the last question / things turning around, I think the short sellers / WSB crowd realized the other banks weren't going to have the deposit run so there's no catalyst to zero.   If there's not a catalyst to zero, then banks become those boring / grinding investments again that'll slowly perform or not perform based on rates and the underlying economy.   That's incredibly boring compared to deposit runs and $15bil in market cap evaporating overnight.   Shorting a bank is hard, so many of the ones left that suck have 100+ year old deposit franchises and 30-50% non-interest bearing deposits.   Even if 2/3rds of their deposits cost 5% and 1/3rd are free, the weighted average cost of funding is only 3.33%.   The worst bank I've seen outside of SVB/FRC on asset yields is still earning low 4s on yields and every asset book sees it's yield improve each month. 

The regulators could force the likes of KEY, BOH, USB, or TFC to raise equity....so the only exciting thing left is when the first regional bank files a shelf offering for common stock.  So far that hasn't happened.

[Weathering]

I went with the bond side of the regional bank opportunity. Initially, I didn’t realize the seniority structure (holding company is lower rated than bank operating company) and many of the bank operating company senior unsecured bonds have a $250k minimum order size. Therefore, I bought some KEY Corp subordinated debt, Citizens Financial Group subordinated debt, HBAN senior unsecured debt, fifth-third Corp senior unsecured debt, and Citigroup senior unsecured debt Once I realized that much of what I now owned was the lowest ranking debt, I made a plan to sell some of it (KEY and CFG, fortunately at -4% profit because the small order sizes enabled more buyers) and put it all together in one $250k purchase of bank operating company senior unsecured debt. I debated between Citizens Bank of RI and BB&T (Truist but it’s subordinated debt) for this large purchase. I went with Truist at 6.8% YTM (2026 maturity) even though it is subordinated debt, because it would be nearly apocalyptic if the 6th largest bank in the US goes bankrupt.

KEY did file a shelf offering about 9 days ago when their CFO presented at a bank investor fireside chat event. Their stock tanked that day, but everyone was more focused on the CFO’s comments regarding net interest income reduction than on the shelf offering filing. The debt of KEY is trading for the highest YTM of the investment grade banks (though KEY’s debt ratings are on negative watch). Usually this means the market is anticipating a rating downgrade. If KEY debt falls out of investment grade, that could cause a big problem and public perception issue. But, if KEY can pull off the stock sale, that would provide a better debt-to-equity ratio and help stabilize the debt rating still within investment grade.

[chasesfish]

@Weathering I agree with your assessment about the senior unsecured debt of TFC (or USB) being fine.   The mid majors aren't going to fail and can still access the capital markets at book value for equity if needed.  TFC has the most valuable deposit franchise of the three you considered.

That being said, I would avoid the commons of TFC, USB, and KEY.   All three of them have major balance sheet issues from bond marks if the 5yr treasury keeps creeping up and could be forced to issue new stock at any moment, accounting for their bond marks they are far far below the 7% TFC threashold.


Disclosure:  I have a personal bias against TFC because I worked for the company.  They mismanaged a lead in the industry equivalent to Chase's coming out of the GFC and instead opted to be a deposit franchise with a bond book. 

[Weathering]

Tomorrow (6/28/2023), annual bank stress test results will be announced.
Could be a bumpy day for bank stocks. I’m hoping for no fireworks before July 4th.

[Weathering]

Tomorrow (6/28/2023), annual bank stress test results will be announced.
Could be a bumpy day for bank stocks. I’m hoping for no fireworks before July 4th.

Bank stress tests were a nothing-burger. All 23 passed the test. The smaller the bank (in general) the worse their result - as expected. My take away was that smaller banks should ask for their tests to be reported separately because then they could be the “best regional” instead of the “last place” in the bank majors.

CFG is getting a little bad press from the stress test, but that is only because they were one of the only regionals testing beside the behemoths like JPM.

[chasesfish]

A lot of nothing.

Watch 2nd quarter reports.  What are the bond marks?  How much has deposit pricing gone up?  What are loan yield books?  The banks should be approaching terminal interest expense, now how quickly can they get their book yield up.

Yahoo finance posted this interesting article, could a relaxation of TDR rules be coming?   It would make sense *if* there's a performing commercial real estate property (85% occupied, positive revenue trends) to not make it a classified loan just because market interest rates have gone from 3.5% to 7%. 

https://finance.yahoo.com/news/us-regulators-asks-lenders-help-190000639.html

[ChpBstrd]

Banks have been out of the news lately, suggesting the Fed's lending program has been successful at preventing bank runs. The CRE problem seems not to be causing too much damage at the moment, but I wonder if it's too soon to make an all-clear assessment. I.e. if a lot of CRE loans were about to flip to non-performing, would we know it by now?

In the meantime, preferred yields seem more attractive now that the threat of deposit flight is potentially resolved. Yes, yields were higher in the past, but the reward/risk ratio seems better today than in April or early May when we didn't know where the dominoes would stop falling. Now I wonder if these are relatively safe yields?

ZIONP = 7.69%
OZKAP = 7.58%
NYCB-U = 7.43%
BOH-A = 7.15%
CFG-D = 7.06%
RF-B = 7.05%
C-K = 6.82%
PFF = 6.77%

[chasesfish]

Banks may also be out of the news because the "problem" they currently have can only become a crisis in a bank run.  All of the "bond banks" have significant mark to market issues *if* they have to liquidate, but 100+ year old lazy retail and business deposit franchises may not have customers that have issues.

As for "all clear"?   For bank closures / panics?  Probably.

For common shareholders?  I'm not so sure.  There's a number of banks that the regulators could come in and declare not adequately capitalized and force them to raise equity at any time.   We've also been at essentially a 0bps loss environment for a decade.   We could see something push that to a recessionary 75bps to 125bps resulting in shareholder pain.   Those aren't closure levels, but they're the levels that stop buybacks, could cut dividends, cause bigger provisions in earnings.

The further I get into the CRE issues, I really expect this to be an equity issue more than a debt issue.   Sure problem loans / losses will increase from zero, but the large majority of properties held in the bank system are performing and there's a lot of options when the underlying asset performs.   Meanwhile every month that goes by will increase total asset yields and help out the banks.   IMO banks are approaching the terminal rate on cost of funds while the yield on assets has a six to twelve quarter runway to catch up.

As for the preferreds?   I went through my list, I own a good allocation of FHN-F and will hold that above 6.5%.   I also own a little UCBI, AUB, and PNFP preferreds, those are all high coupon preferreds but not much upside left in principal.   I want to be paid 8% or more for an individual preferred or else why not just buy PFF and eliminate the individual company risk.

[Zamboni]

PTF and because I'm doing more reading on long term bonds. Will the FIRE investing advice in the original YMOYL book become workable again?

[Weathering]

I was a little overwhelmed this morning when the jobs report caused interest rates to spike. I quickly scanned bank bonds and bought a few. I doubled my position in Citigroup senior unsecured 2098 bonds with a YTM of 6.35%. I bought a small amount of TFC senior unsecured 11/2025 bonds with a YTM of 6.16%. I bought a small amount of HBAN senior unsecured 2030 bonds with a YTM over 6% (can’t remember exact %). Additionally, I bought a small amount of US Bank senior unsecured 2/29 bonds with a YTM over 6%.

I have fully loaded my bank bonds allocation now. They represent a little less than 10% of my portfolio. Previously these funds were in junk bonds, so I took advantage of the banking sector fiasco to improve the overall credit ratings of my bond portfolio. My yield-to-maturity went down some, but so did my risk.

The federal home loan banks and federal farm credit banks seem to have missed out on today’s interest rate spike. Very little activity there, possible due to no new issues being floated today. I have Ffb 6.15% and Fhlb 6.23% bonds that could be called any day now.

[Weathering]

Bought $5k face value of 2030 Bank of Nova Scotia bonds for $0.73/$1.00 today. YTM 6.02%
Callable, but unlikely because coupon is 2%

Now, I have to stop buying bank bonds.

[RobertFromTX]

1/5th of my position exited on a limit sell order.
Have 4 more, 1/5th each, orders set up with the last around a 1.35x/tbv.

Don't have to think about it, just wait for the Fidelity app to send me a notification then I login and deploy it back to an index fund.

[ChpBstrd]

The federal home loan banks and federal farm credit banks seem to have missed out on today’s interest rate spike. Very little activity there, possible due to no new issues being floated today. I have Ffb 6.15% and Fhlb 6.23% bonds that could be called any day now.

It's hard to buy bank bonds for just over 6% when AAA rated FFB and FHLB bonds can be had yielding 5.8%-5.9%. I wonder how likely it is that these agency bonds actually get called when interest rates fall? Does anyone have insights on this question?

Also, I'm not sure long duration interest rates actually will fall. The recession pattern that repeatedly occurred in the past was for the yield curve to un-invert due to the short end falling - Fed rate cuts - while the long end stays relatively stable. 

[chasesfish]

I looked through some of the big bank earnings.   Wells probably provided the cleanest view of a commercial bank vs. JPM and C, which have a lot of non-bank noise.

Wells margins slightly down (0.11%), loans barely down, and loan loss provisions had a reasonable build in the quarter all while delivering similar EPS because they reduced the shares outstanding by 2-3% this quarter. 

I think we'll see this trend through most of the commercial banks.   Reasonable business impacts from the speed of rate increases and coming off a zero loss environment, but those with excess capital will take advantage of the depressed stock prices and offset these small declines with repurchasing shares at nice discounts vs. six months ago.   

Wells saw chargeoffs go from 0.26% of assets to 0.32% of assets, but built reserves from 1.45% of total loans to 1.56% of total loans. 
I would watch what Capital One does as well.   

There's a saying with analysts that goes something like "there are banks we teach and there are banks we learn from".   The big consumer exposed banks like Wells and Capital One can tell you exactly what they think is going to happen with the consumer based on real time data from their checking account, credit card, and auto loan portfolio.    The fact Wells built reserves by 0.11% even though/after charge offs increased by 0.06% means they see consumer distress / charge offs at least making it back to their historical range of 0.50% to 0.75% if not getting a little worse.  The question is where are they exposed?  Prime home equity and auto loans are well collateralized thanks to inflation, but credit cards will always be a risk.   I'll be watching Capital One to see what they say here since they are heavier into credit cards and auto lending vs. Wells that has a higher HELOC mix. 

Wells total deposit costs were 1.13% for the quarter and only lost 1% of their deposits this quarter at those rates. 

The other random comment, Quantitative Tightening is back.  The federal reserve's balance sheet broke through it's March lows.  The BTFD program for temporary bank liquidity cost them a quarter of tightening but it looks to be down.