buy bank stocks on the dip

[chasesfish]

Anything we need to know about the end of the Fed Bank Term Funding Program?

IMO it is a non-event.   There's plenty of other sources available, both public and private.  (Fed window, FHLB, and brokered CD market)

[ChpBstrd]

Anything we need to know about the end of the Fed Bank Term Funding Program?

IMO it is a non-event.   There's plenty of other sources available, both public and private.  (Fed window, FHLB, and brokered CD market)

But I don't think any of these will take discounted treasuries as collateral at face value - so for banks with lots of older treasuries their borrowing capacity is lower than it was under the BTFP.

[chasesfish]

The point of BTFP was to allow banks a backstop for large deposit outflows and post treasuries as collateral instead of selling it at a loss.   This was mostly an issue for banks with high percentages of uninsured deposits with flight risks.  Those concentrations should have been replaced over the last year through various means, but mainly brokered CDs, time deposits, savings account promotions, all things within the existing FDIC Insurance limits. 

They can also still sell the collateral at a lower loss than a year ago.  The portfolios got a year of duration burnoff.  |

I could be wrong, but my opinion is this is a non-issue.

[chasesfish]

Another doom post based on a research firm's report plus CNBC

https://www.cnbc.com/2024/03/19/where-cracks-in-the-banking-sector-may-appear-without-more-ma.html

They report implies 300% or more in CRE to Tangible Common Equity is a problem and looks at those banks with 4% or less in Tangible Common Equity after bond marks.

The risks to investors in these banks is mostly a dilutive capital raise, which could be pushed by the regulators.  So far regulators and investors realize the bond marks recover with time and most lenders aren't seeing abnormal levels of distress.    Losses in treasuries are mathematical and known, making dilutive capital raises easier.  Losses in credit are the unknown and harder.

The one issue with the CRE concentration number is owner occupied real estate loans are lumped into the total CRE bucket.  Your local dentist's office or auto repair shop isn't the same risk as your merchant real estate developer. 

The conclusion of this is mostly known - there will still be some failures of banks that poorly managed their bond book and credit risk, and there will be dilutive capital raises or mergers for others.   I'm not seeing much new information here and the market isn't moving at all on it.

[Weathering]

Banks are doing well now that no one is trash-talking them in the news.
VLY and VLY-O are up this week.

[chasesfish]

Banks are doing well now that no one is trash-talking them in the news.
VLY and VLY-O are up this week.

My $BAC is is over $37, far cry from the $25 it was trading from back in October when a report would come out weekly with the "mark certain assets down" and call them insolvent.   

The banks seem to like the fed announcements, they're still planning on 2-3 cuts this year and some early next year even if the economy is running hot.   That likely flattens out the yield curve, keeps employment up, and accepts inflation running above 2% for longer.   Inflation sucks for a lot of things, but it doesn't suck for bank lending businesses. 

Next up is stock buyback and merger activity.   We still have a week to go and the 5yr moved against banks this quarter, but I think that's the last hit to bank capital / capital building and we'll see a higher percentage of earnings returned to shareholders going forward.

[ChpBstrd]

The following banks were just downgraded by S&P from stable to negative.

FCF
VLY
SNV
TRMK
MTB

To me this seems like a strange mix of possibly decent banks (MTB, FCF) and overextended turd banks (VLY, TRMK, SNV). What they have in common are significant loss provisions and CRE exposure. 

I call this a mix of decent banks and turds because their numbers are so different.

M&T for example has about the same 88% debt/assets ratio it had at the end of 2020, but since then has grown tangible book value +58%, diluted EPS +75.5%, and free cash flow +492%. Each metric has improved consistently year after year. Yet their stock has only risen +7.5% across these 13 quarters of rapid growth, and their PE ratio is less than 9.

Trustmark, on the other hand, has a 91% debt/assets ratio, has inconsistent EPS growth, free cash flow that has been falling since 2021, and roller-coaster tangible book value.

One of these things is not like the other, but S&P thinks a CRE crisis could be coming for them all. Perhaps their point is worth considering. Where can rapid growth come from in the saturated banking industry, if not from taking the risks other banks were smart enough to refuse? The banks we respect today could become the NYCBs of tomorrow.

Then again, the impending-CRE-collapse narrative is getting long in the tooth, and the damage has been limited so far. Had you asked me this time last year, I'd have said that in 12 months we'll know if CRE was going to become a crisis or not. Here we are a year later with 5-year treasuries at 4.2%. For banks like MTB, rising loss provisions have so far been dwarfed by faster-rising net income and healthy free cash flows.

[chasesfish]

@ChpBstrd your post is timely, I'm starting to go through some 10Ks of community banks I own.    Meanwhile every top 20 bank is up +/- 35% from the March lows in almost an indiscriminatory move.

I'm seeing some signs from lenders that took excessive risk, but stupid is as stupid does.  Generally the larger the bank, the more guardrails / talented people around that avoid stupid risk.  Even in horrible beurocracies like Wells Fargo or Citi, mediocre employees know there's career risk by approving bad loans.   The stupid risks I'm seeing are in smaller banks and in single asset class non-bank lenders. 

***

We seem to be settling into a higher for longer setup.   The good banks have mostly replenished the bond losses with two years of retained earnings.   Now the question will be what do they do next?   IMO, many of these banks should start taking smaller hits to earnings each quarter harvesting those losses, reducing their tax liability, and increasing net interest margin.    I'm invested in a community bank where 25% of their assets earn a whopping 2.17% and are mostly a greater than five year duration book.   The entire yield on the book only increased by 0.08% year over year.   I'm sure the management is worried about negative earnings growth, optics, ect, but these things are a loss.  Work your way out of them over the next eight quarters and enjoy reasonable margins going forward.

This community bank is otherwise competent:  Great cost of funds, good commercial credit, shockingly still making money originating boring $250,000 mortgages, and owns a small wealth management firm. 

[ChpBstrd]

@ChpBstrd
I'm seeing some signs from lenders that took excessive risk, but stupid is as stupid does.  Generally the larger the bank, the more guardrails / talented people around that avoid stupid risk.  Even in horrible beurocracies like Wells Fargo or Citi, mediocre employees know there's career risk by approving bad loans.   The stupid risks I'm seeing are in smaller banks and in single asset class non-bank lenders.

This is an interesting observation. I suspect it has less to do with resources or talent, and more to do with incentives.

Perhaps the person approving the loans at the small bank has stock options, and perhaps they realize their personal decisions have an effect on the metrics which determine the stock's price, and perhaps they have less oversight in a flatter organization. If a timebomb loan application comes along that would juice the stock price... maybe they go for it.

The Wells Fargo or Citi loan analyst, OTOH, is merely a cog in a very large machine. They may have the same stock options, but the risks they take as one out of 1,000 loan analysts are not going to move the stock price. Therefore they are mostly concerned with not getting fired, with not taking risks that could interfere with eventual promotion, and with surviving the sort of internal audits a smaller operation might not have.

Such a dynamic would leave the worst deals filtering down to the bottom-feeding smallest banks. Maybe the bargain is to pay 12-13x earnings for JPM, BAC, WFC, or PNC rather than picking up a bunch of vulnerable and tiny bottom-feeders for 8-10x earnings. I.e. very low risk banks are on sale, and very high risk banks are on clearance for just a little bit cheaper.

[chasesfish]

Such a dynamic would leave the worst deals filtering down to the bottom-feeding smallest banks. Maybe the bargain is to pay 12-13x earnings for JPM, BAC, WFC, or PNC rather than picking up a bunch of vulnerable and tiny bottom-feeders for 8-10x earnings. I.e. very low risk banks are on sale, and very high risk banks are on clearance for just a little bit cheaper.
[/quote]

That's a fairly accurate observation around Commercial and Industrial and Consumer lending, where there's unlimited capacity.   Regulatory restrictions on CRE lending mean there's more demand then capital to support it in the top 20 banks.

This is also why I mostly buy community banks that are in markets where the largest banks abandon.  You just don't see a larger banks put infastructure into 250,000 or less population markets, it's expensive infastructure and there are still lending needs there.   

[daverobev]

Bumping after a month since the last post.

Any thoughts on what 'higher for longer for longer' might bring to the bank stocks table? Anyone moving money to money market funds or whatnot?

[Michael in ABQ]

My portfolio of preferred stocks is now at an average yield of 7.61%. Down a bit from earlier as I've picked up a few more shares with some additional cash. But some of my first purchases were at 10%+ yields so I'm just going to hold these for now and collect some cash going forward.

[chasesfish]

Bumping after a month since the last post.

Any thoughts on what 'higher for longer for longer' might bring to the bank stocks table? Anyone moving money to money market funds or whatnot?

I would watch guidance more than anything this quarter.   I expect the actual quarterly earnings for Q1 to be boring.  Cost of funds flat lining for most while loan repricing continues.   The move in rates is bad for all the banks in various levels of bond jail, but mainly for their ability to grow their balance sheet with loans or repurchase shares, with cost of funds flatlining these banks will be fine to support 15% to 30% of their assets still yielding in the 2s.

Guidance on CRE will be interesting.   The rate moves are back above my 4.5% 5yr Treasury "line of demarkation".    That move happened after the quarter end, so what will these banks talk about related to loan loss reserves and provisions going foward?   They're all looking at operating statements on properties for 2024 and should have a much better idea what percentage of loans are good vs. what percentage are impaired.

As a reminder, the collapse narrative will be isolated to certain assets or geographies, NY might sign another law effectively seizing control of apartments from private owners.  That'll suck for the likes of VLY.    The other CRE loans are backed by assets that generate cash flow, now the question is how disciplined were various banks underwriting deals in 2020-2021?   Those buildings have seen four years of rent inflation, some cost inflation, but will now need to pay market rates at 7%+ instead of 4%.     Some banks did higher leverage deals with mediocre operators and I expect that to be exposed throughout the year.   Who starts talking about "isolated issues" and "one time" chargeoffs vs. which banks just methodically work through their portfolio as business as usual?

We're in that weird spot where generally banks make more money with higher for longer rates...the question is who benefits the most from it with the least amount of pain getting there?   Most of the large banks are up 30% from October and not really giving it back, so I'm not sure there's a huge buying opportunity. 

 

[ChpBstrd]

St. Louis office tower lost 98% of its value
https://www.morningbrew.com/daily/stories/2024/04/14/undefined

A long-vacant, 44-story office tower in St. Louis sold last week for $3.6 million, a 98% plunge from when it changed hands for $205 million in 2006.

Six of the 10 office districts in the US that had the biggest decline in foot traffic from 2019 to the middle of 2023 are in the Midwest...

Skyscrapers going for the price of a nice SFH in California...
Upon further research, US Bank foreclosed on it from an REIT in 2017, tried to sell it for 5 years, and eventually accepted $4.1M from SomeraRoad in 2022. Now they've lost a half million on it.

[Michael in ABQ]

St. Louis office tower lost 98% of its value
https://www.morningbrew.com/daily/stories/2024/04/14/undefined

A long-vacant, 44-story office tower in St. Louis sold last week for $3.6 million, a 98% plunge from when it changed hands for $205 million in 2006.

Six of the 10 office districts in the US that had the biggest decline in foot traffic from 2019 to the middle of 2023 are in the Midwest...

Skyscrapers going for the price of a nice SFH in California...
Upon further research, US Bank foreclosed on it from an REIT in 2017, tried to sell it for 5 years, and eventually accepted $4.1M from SomeraRoad in 2022. Now they've lost a half million on it.

There is a pair of office buildings here in Albuquerque that have been vacant a few years now. I appraised this pair a few times about a decade ago and they were 80-90% occupied, mostly by state government tenants. Those have all since moved out to other newer office buildings that are only 1 or 2 stories instead of having a department spread across 5-10 floors. There is also a very nice penthouse on the top floor of the 17-story building with amazing views as this skyscraper stands along miles from any others (plus a falcon that lives on the roof and hunt pigeons).

The smaller building in back housed the very first offices for Microsoft (originally founded in Albuquerque before moving to Seattle). It doesn't help that they're located at one of the worst intersections in the city that is constantly filled with homeless people due to a nearby methadone clinic - as well as a plasma donation center. It's so bad that Walmart shut down a store here because of rampant theft and hundreds of annual police calls.

I can't recall what they were valued at but it was somewhere around $5-15 million probably. Nowadays, they probably can't give them away. The elevators were decades old and would need to be replaced at a cost of hundreds of thousands (maybe a million), the floors were relatively small and not well suited to large tenants, converting to residential would be a non-starter. So they'll continue to sit vacant and get covered in plywood and graffiti.

[chasesfish]

We're going to see a constant drip of these office tower stories.  The reset of values isn't quick.

The 5yr treasury jumped again today.   We'll see if it can break 5% during this run.    I don't follow too many of the sensitive banks, but two VA community banks I watch with bond issues have given back 10-15% of their stock price in the last few weeks ($NKSH and $BOTJ).    There might be a buying opportunity in the ones with large enough non interest bearing deposit bases to carry the portfolio while it mathematically recovers.

I haven't dug deeply into other names on this, I have some exposure to a couple I can just add to at the correct price.

Interestingly, there's plenty of these low rate mortgage backed securities being prepaid.  The federal reserve managed to run off almost 100bil in assets in the last month.

I continue to think banks with large non-interest bearing deposit bases and reasonable credit risk are going to be big winners in a higher for longer cycle.

[chasesfish]

Tuesday update:  Still boring.

I watched $BAC release, the big bank I own out of the four.   I saw no reason to buy more and no real reason to sell.  Margins slightly up, chargeoffs up, yet reserves weren't increased (even though they had room to dos o), indiciating less signs of higher chargeoffs in Q2.    Still buying back a little bit of stock and building some capital.

The paydown rate on the Mortgage Backed Securities portfolio was *slow*...we may get some "BofA is insolvenet" posts again when people try to mark all the assets to market but not give them credit for 1.9% funding costs in a 5% world. 

Community banks start rolling in over the next two weeks. 

[Michael in ABQ]

We're going to see a constant drip of these office tower stories.  The reset of values isn't quick.

I actually just saw an article in the local business journal that an out-of-state developer is going to try and turn the smaller of those two towers into residential.

Good luck getting tenants in that area. Not to mention that conversion will cost as much, if not more than, new construction. The elevators and HVAC would need to be replaced and virtually every interior wall removed. You're getting a shell (after spending hundreds of thousands or more on internal demolition) at best that wasn't explicitly designed for residential.

[ChpBstrd]

5-year treasuries are now at 4.72%, close to the peaks of early October.

If I look at 30y bonds issued in 2022 or early 2023, I see that lots of them are trading at 15-20% discounts.

How long until we start seeing more bank failures, and which bank or banks will be the first to get into trouble? NYCB seems like the obvious candidate, but I wonder what other banks are sitting on badly underwritten portfolios? A list sorted by one-year default rates turned up what is generally a bunch of privately held microbanks.



The same list with 3-year default rates turns up some investable short candidates. Deutche Bank in particular seems to be having a terrible time, alongside European peers Santander and BBVA.

So maybe one idea would be to short DB and go long MTB?

We're going to see a constant drip of these office tower stories.  The reset of values isn't quick.

I actually just saw an article in the local business journal that an out-of-state developer is going to try and turn the smaller of those two towers into residential.

Good luck getting tenants in that area. Not to mention that conversion will cost as much, if not more than, new construction. The elevators and HVAC would need to be replaced and virtually every interior wall removed. You're getting a shell (after spending hundreds of thousands or more on internal demolition) at best that wasn't explicitly designed for residential.

Here's another example in NYC, where a 26-story Manhattan office was intentionally allowed into foreclosure by Blackstone, and resold by Deutch Bank for a 67% discount against its 2014 value. The loan was interest-only, and it's unclear how much equity Blackstone lost on the deal.

[chasesfish]

5-year treasuries are now at 4.72%, close to the peaks of early October.

If I look at 30y bonds issued in 2022 or early 2023, I see that lots of them are trading at 15-20% discounts.

How long until we start seeing more bank failures, and which bank or banks will be the first to get into trouble? NYCB seems like the obvious candidate, but I wonder what other banks are sitting on badly underwritten portfolios?

See if your screener can run a sorting of banks greater than $2bil in assets and sorted by lowest Price to Tangible Book Value.   Here's a link to a similar chart.

https://x.com/Aureliusltd28/status/1782491562431348769

Earnings season has still been mostly "meh".     There are some dogs of regional banks trading above tangible book value (TFC, CMA) and some community banks decently discounted.   Every analyst is pushing on credit every way possible, but still aren't finding a ton.   The balance sheet impacts of the 5yr move hasn't been nearly as impactful as last year.   Bond convexity at these higher rates isn't as bad and most banks have slowed down capital returns to shareholders and building capital.   $BOH had a decent quarter and they're the staple of interest rate issues.   

One *good* thing that came out of the GFC, bank dividends above 40% of earnings got major pushback, so banks wanting to return 100% of capital did the other 60% in buybacks.   Those have been easy to scale back without freaking out the markets.

The CRE story will still drag on, everyone's bucket is full.  Borrowers don't want to move their loans to the permanent market and don't want to transact right now, so they're mostly eating the change in interest expense or paying down loans.   Sunbelt multi and NYC are worrysome.

Watch the SBA heavy banks like LOB as well.   Rates going to 11% on their products hurt them both ways with more loans going to special servicing and less demand. 

If you want some fun, bet againt Arbor or ReddyCap.   The mortgage REITs that originated these 2021 and 2022 $30mil multifam deals have issues.

[chasesfish]

If you want a good example for the profile bank I think can get in trouble this cycle, take a look at Eagle Bank's Q1 Earnings

Most of these top 10 / top 20 cities have $10bil to $30bil banks that still act like community banks.   High levels of construction lending, high levels of CRE exposure, and ability to do much larger project sizes.   I knew a few that fit this profile in Dallas, Eagle is the main culprit in Washington DC.   Some cities like Atlanta don't have a candidate because the two that met this criteria sold a few years ago due to retiring management. 

These banks weren't formed until the consolidation of the 1990s, so they don't have the same funding cost benefit that the 100yr old banks have.   Similar to First Republic and Silicon Valley with a credit catalyst vs. a bond catalyst for the hit.

The feds have always forced these banks to keep a bunch of capital, so the push/pull is going to be just how big are the losses, they can absorb a lot of CRE pain with 10% Tangible Common Equity.

[ChpBstrd]

Thanks for the insights as always @chasesfish! The problem with book value is how it doesn’t tell one the quality of that book. Do you think we can use recent default numbers as a proxy for probable book quality and then evaluate book value with some manual adjustments for quality? Or, are real estate reset events like 2008 and now too idiosyncratic to model in such a crude way?

More empty office skyscrapers selling for a small percentage of their value from a few years ago:
https://sfist.com/2024/04/23/empty-office-building-at-sixth-and-market-which-last-sold-for-62-million-now-sells-for-just-6-5-million/

[reeshau]

The Wall Street Journal reports that regulators have seized Republic First Bancorp. The Philadelphia bank has $6B in assets and branches in Pennsylvania, New Jersey and New York under the name Republic Bank.

Lancaster, PA based Fulton Bank has bought substantially all the assets of First Republic.  Fulton has $28B in assets and 200 branches in Pennsylvania, Delaware, Maryland, New Jersey and Virginia.

Republic First had been in jeopardy of seizure late last year, but came to a deal with investors to shore up its balance sheet.  That deal fell through, leading to the current situation.

[chasesfish]

The Wall Street Journal reports that regulators have seized Republic First Bancorp. The Philadelphia bank has $6B in assets and branches in Pennsylvania, New Jersey and New York under the name Republic Bank.

Lancaster, PA based Fulton Bank has bought substantially all the assets of First Republic.  Fulton has $28B in assets and 200 branches in Pennsylvania, Delaware, Maryland, New Jersey and Virginia.

Republic First had been in jeopardy of seizure late last year, but came to a deal with investors to shore up its balance sheet.  That deal fell through, leading to the current situation.

First Republic is a perfect example of a newer bank in a top 10 city with a heavier real estate concentration. 

Their biggest problem though came down to board infighting.   Someone regulators allowed the company to spend tens of millions in equity in legal fees trying to prevent activist investors from coming on to the board.    Management didn't want adult oversight into the risk they were taking 2+ years ago and here we are.   There was no need for this failure.    Lots of personalities since one of the activist groups was connected in NJ politically.

Pretty small failure in the world of banking, but we'll see a few more like this.

Here's a good article from Bank Director around First Republic. 

[chasesfish]

Thanks for the insights as always @chasesfish! The problem with book value is how it doesn’t tell one the quality of that book. Do you think we can use recent default numbers as a proxy for probable book quality and then evaluate book value with some manual adjustments for quality? Or, are real estate reset events like 2008 and now too idiosyncratic to model in such a crude way?

More empty office skyscrapers selling for a small percentage of their value from a few years ago:
https://sfist.com/2024/04/23/empty-office-building-at-sixth-and-market-which-last-sold-for-62-million-now-sells-for-just-6-5-million/

We're going to see those office tower headlines through 2026, just remember those are LifeCos and CMBS lenders making $30mil+ permanent loans.

What most people are doing for the at risk banks is looking for CRE concentrations > 250% of equity, then digging into the geography and product type disclosures in the investor presentations.   NY multi has some people excited, sunbelt multifamily construction has headwinds.   Lack of an old deposit franchise is key too, in the community bank world I own three banks in a market.   The two old franchises are working on a 3.60% net interest margin and the one founded in the 1990s has a 3% margin.   Same applies for larger banks.    Margins are mostly stabilizing now, heading up for some, decelerating for the others.    That's a lot of additional room to build reserves, absorb losses, or survive as a mediocre lender if you sit on an old deposit franchise.     

[ChpBstrd]

Republic First is going to get confused with First Republic a lot, lol.

[chasesfish]

Republic First is going to get confused with First Republic a lot, lol.

There's a joke around twitter that there's only six or seven banks left with Republic in their name to go

[reeshau]

This might be crossing the streams, or something, but I snorted when I read about the testimony today in the Trump case:

"On Friday, Gary Farro, First Republic Bank’s former senior managing director, testified about working with former Trump lawyer Michael Cohen to set up an account for a limited liability corporation that was used to pay Daniels. He will be back on the witness stand Tuesday."

Another bad line of business...

[ChpBstrd]

The tallest building in Fort Worth, TX was just bought back by Pinnacle Bank Texas, a family-owned bank. The ticker symbol linked in the article does not appear to be related to Pinnacle Bank Texas.

The price was $12.3M or $12.30 per square foot. The building is also encumbered by $1.6M in construction liens. It had a vacancy rate of 22% and was built in 1983. Interestingly, the former owners are suing the bank for forcing it into foreclosure.

I suspect we're seeing the end of the office skyscraper. There won't be very many of these built ever again, due to the WFH revolution and the massive overhang of supply. I also think a lot of municipalities will get into trouble if their skyscrapers demand a mark-down of appraised value, because these areas subsidize entire cities. If central business district office buildings are going downhill in value, maybe a lot of muni bonds could become credit challenged in the near future and a new cycle of urban decay could begin.

[tj]

WFH revolution? I can't find a remote job because employers want staff in the office again.

[reeshau]

The price was $12.3M or $12.30 per square foot. The building is also encumbered by $1.6M in construction liens. It had a vacancy rate of 22% and was built in 1983. Interestingly, the former owners are suing the bank for forcing it into foreclosure.

I thought it was interesting that this building has twice the vacancy rate of Ft. Worth overall, which is 11%.  It's an outlier, but something to watch.

It also happens that the Waldorf Astoria in Washington, DC (formerly the Trump International Hotel) is scheduled for a foreclosure sale.  Not office related, obviously, but a highly-levered play: a leasehold bought for $375M in 2022, with balance outstanding on its note of $252.7M.

[chasesfish]

A few thoughts from bank land...

The 5yr Treasury dropping from 4.5% to 4.35% after yesterday's inflation report is a nice repreive for banks / CRE.   It struggles to stay above that distress marker I've been talking about for a year.

*Most* banks are building a meaningful amount of capital now.   The regulators are tightening up on dividend approval, buyback approval, and going over CRE concentrations.  Lots of chatter about this from bank management.   Fortunately Silicon Valley and First Republic *awakened* the regulatory agencies into doing their job vs. doing political bidding.   Less exams over DEI and climate risks, more exams over risks that will blow up the banks.   This is making bank CRE capital much harder to obtain on new deals. 

We're seeing deeper disclosures around both classified and modified loans, if they haven't been in the investor relations presentations, they are showing up in the accountant's audit / 10k / annual report.

Even with the rise in rates from 12/31 to 3/31, most banks still had a small improvement in their bond portfolio.   All but the worst portfolios are seeing slight gains in their portfolios.   We're now halfway through this quarter with flat to slightly declining bond rates. 

Where do we go from here?   The KRE is meh on value, some large banks been great investments over the last six months.   I am still finding value in well run community banks, as i get more into the space this is becoming avoiding the management teams that try to do *too much*.    Running a bank day to day is a boring business and sometimes the executives who make it to the top are busybodies who've been successful by taking action over and over.    Often the best philosophy in banking is what Jamie Dimon built his career on:  Be boring and consistent, then let your competition screw up then take advantage of said screwup.   I think I'm getting better at the signs of a management team trying to do too much.

[ChpBstrd]

Interesting thoughts @chasesfish .

It makes me wonder: If most banks are trying to reduce CRE exposure, who is refinancing the $929B in commercial and multifamily loans coming due this year? What bank under these levels of regulatory scrutiny can refinance radically depreciated office buildings with high vacancies?

Seems like one of the following has to happen:

• banks maintain their CRE concentrations, OR
• non-bank companies step in to make more of these loans, OR
• there will be a lot of defaults, caused by the banks' unwillingness to extend their own loans.

[chasesfish]

Interesting thoughts @chasesfish .

It makes me wonder: If most banks are trying to reduce CRE exposure, who is refinancing the $929B in commercial and multifamily loans coming due this year? What bank under these levels of regulatory scrutiny can refinance radically depreciated office buildings with high vacancies?

Seems like one of the following has to happen:

• banks maintain their CRE concentrations, OR
• non-bank companies step in to make more of these loans, OR
• there will be a lot of defaults, caused by the banks' unwillingness to extend their own loans.

I guess my thoughts would be...

1) The CRE concentration at this point is naturally falling.  There's limited construction funding and no new clients taken on by most banks.  Each month the banks are improving capital and seeing CRE loans flat to declining.

2) The # / $ of maturing loans is not really a reliable number.   In any environment, most loans are extended by the existing lender.  They have a competitive / cost advantage in keeping the debt instead of the debt moving.

3) The loans that are troubled are troubled.   The various pathways to resolution exist.   There are the up front ways (cash in refinancing, selling the note to distressed debt funds, foreclosure / sale, troubled debt restructures) and the not so up front ways of extend and pretend by the less regulated lenders. 


High rise office is and continues to be the boogyman.   That stuff is toxic, some of it is in the banks, and it'll drag on earnings for those dealing with it.   Unlike 2008, interest rates are high and the economy is decent, so deposit franchises and the other lending businesses have more value today as compared to the last bust.   

We'll see if the biggest offenders like my Eagle Bank in DC example fail or just get sold for a discount once they are told to raise capital because there's quite a bit of value in the non-office lending pieces.   Just yesterday Bank of America bought $3.2bil in loans from WaFed and JPM bought $5bil in asset based lending loans from NYCB.   We weren't seeing these transactions in 2008 without FDIC assistance.     

[ChpBstrd]

Well this is interesting. The Federal Reserve is considering raising reserve requirements for large banks (large, I presume, because small banks are too weak to take any more regulation at this point).

https://finance.yahoo.com/news/feds-barr-says-regulators-considering-125949707.html

Perhaps these higher requirements will arrive at about the same time rate cuts begin. In terms of sector rotation theory, it seems like now might not be the time for financials.

Among the changes under consideration are requiring larger banks to position a minimum level of collateral at the Fed's discount window, which is intended to serve as a lender of last resort, but one banks have resisted in the past due to concerns it could signal weakness to the financial market.

Barr also said larger banks could be directed to ensure they have sufficient liquidity to cover their uninsured deposits, after Silicon Valley Bank saw those funds, which made up the vast majority of their deposits, flee quickly in the days before its failure.

Another lesson from SVB's failure is regulators are considering different treatment for certain types of deposits that may be more prone to runs, such as those associated with venture capital and cryptocurrency businesses.

"As we saw during the stress of a year ago, these types of deposits can flee banks much more quickly than previously anticipated," he said in prepared remarks.

Lastly, regulators are also considering placing restrictions on how much larger banks can rely on "held-to-maturity" assets when calculating their liquidity under existing rules. Barr noted that those securities can prove difficult to sell during times of stress, potentially reducing their usefulness as a liquidity reserve.

[reeshau]

My reaction to that is "What took you so long?"  All the regulators said they would be doing this, back when they were testifying about bank failures last year.  It's not new news.

Banks have also been paying their special assessments to pay for the FDIC seizures.  To some extent, the capital funding the increased reserves will just replace those fees on the income statement.

Also, very ironically, the reserve requirements are focused on the largest banks.  Because....that's where the problem was last year?  The real answer is: so that they have capital to absorb the bad actors when they go under.  Not a good sign that this will be an effective step.  Just putting the screws on them.

Maybe regulation will become so top-heavy someday that the regional and community banks are given a competitive advantage...

[ChpBstrd]

Definitely goes against the narrative that the big banks have neutered US regulators. Rising reserve requirements will harm their profitability and tighten overall money supply. In Econ class, I was taught that changes to reserve requirements were the big guns, to only be used in desperate situations. Reserve requirements are the most blunt and powerful of tools - easy to misjudge.

However, if only the big banks are armored against a possible future of much higher CRE, mortgage, or consumer debt defaults, then that still leaves the potential for a sizeable banking crisis among small and midsize banks. Maybe it's been managed down to S&L 1980s levels, but still. 

[chasesfish]

Fun little day in bank world...

$IBTX in Dallas, one of those large community banks heavy in CRE was bought out at 148% of book value by a stronger regional bank (South State).   Book value was lower, but I didn't see a nearly 150% premium for a newer, loan heavy bank in a top 10 city.   Not exactly the day bank doomers expected.

Greenberg also resigned from the FDIC.   It'll be interesting the direction that it takes with a new appointment from POTUS, hopefully someone more focused on safety and soundness than DEI and Climate Change.    The latter is important, but you lose elections if banks start dominoing and collapse the economy. 

[SilentC]

 If I look at some of the CRE heavy lenders (like OZK) the spreads they are earning on the loans are lower but not too much lower than some of the mREIT lenders, but the NPL ratios are a fraction of the mREITs but the reserving 10x higher as a percent of NPLs.  Is this “cultural” where the banks just have to be a lot more conservative in their reserves or is there potentially another reason for this?  I am looking at CRE-specific ACL / CRE Non-accrual and 90d+ loan balances. Thanks in advance if anyone has any thoughts on this.

[chasesfish]

If I look at some of the CRE heavy lenders (like OZK) the spreads they are earning on the loans are lower but not too much lower than some of the mREIT lenders, but the NPL ratios are a fraction of the mREITs but the reserving 10x higher as a percent of NPLs.  Is this “cultural” where the banks just have to be a lot more conservative in their reserves or is there potentially another reason for this?  I am looking at CRE-specific ACL / CRE Non-accrual and 90d+ loan balances. Thanks in advance if anyone has any thoughts on this.

If you're incredibly curious, take a look into CECL.

The general answer to your question though is the most risk this cycle was taken first by retail investors via syndications then mREITs on rehabilitation loans.   Large CMBS/LifeCo/PensionCo loans on multistory office buildings have also been whacked.   The banks are mostly in the lower risk/lower return lending business of CRE.   There's also a lot of pushback when a bank goes over 300% of total capital in CRE loans (somewhere between 24-30% of assets).   Banks have the lowest cost of funds, restricted capacity, so they get to be the lower priced lender and pick and choose their CRE deals, which is very different than 2008.   

The CRE bank doom narrative will be exhausting, but people are always focused on the last cycle.   This cycle will deal with specific asset classes (office) and specific regional issues (NYC multifamily).   Meanwhile a mediocre large community bank with 400% of equity in CRE in Texas still sells for a 150% premium.   I think the longer this drags out, the more of a market there will be for the troubled banks.   There's a lot of capital being forced to be retained by the banks and I expect that'll play out via stronger banks acquiring mediocre ones.

[SilentC]

If I look at some of the CRE heavy lenders (like OZK) the spreads they are earning on the loans are lower but not too much lower than some of the mREIT lenders, but the NPL ratios are a fraction of the mREITs but the reserving 10x higher as a percent of NPLs.  Is this “cultural” where the banks just have to be a lot more conservative in their reserves or is there potentially another reason for this?  I am looking at CRE-specific ACL / CRE Non-accrual and 90d+ loan balances. Thanks in advance if anyone has any thoughts on this.

If you're incredibly curious, take a look into CECL.

The general answer to your question though is the most risk this cycle was taken first by retail investors via syndications then mREITs on rehabilitation loans.   Large CMBS/LifeCo/PensionCo loans on multistory office buildings have also been whacked.   The banks are mostly in the lower risk/lower return lending business of CRE.   There's also a lot of pushback when a bank goes over 300% of total capital in CRE loans (somewhere between 24-30% of assets).   Banks have the lowest cost of funds, restricted capacity, so they get to be the lower priced lender and pick and choose their CRE deals, which is very different than 2008.   

The CRE bank doom narrative will be exhausting, but people are always focused on the last cycle.   This cycle will deal with specific asset classes (office) and specific regional issues (NYC multifamily).   Meanwhile a mediocre large community bank with 400% of equity in CRE in Texas still sells for a 150% premium.   I think the longer this drags out, the more of a market there will be for the troubled banks.   There's a lot of capital being forced to be retained by the banks and I expect that'll play out via stronger banks acquiring mediocre ones.

Thank you!  The TX bank is definitely encouraging.  I do need to read up on CECL and maybe some answers will be there.  Still, it seems weird to look at a bank like OZK that has $25mn of NPLs on the CRE portfolio set aside reserves of $200m, and then you look at an mREIT and $1bn of loans are not performing and reserves are $600mn.  Guess that’s a reason OZK trades at 1.25x tangible and those REITs mostly under 0.9x.

[chasesfish]

Thank you!  The TX bank is definitely encouraging.  I do need to read up on CECL and maybe some answers will be there.  Still, it seems weird to look at a bank like OZK that has $25mn of NPLs on the CRE portfolio set aside reserves of $200m, and then you look at an mREIT and $1bn of loans are not performing and reserves are $600mn.  Guess that’s a reason OZK trades at 1.25x tangible and those REITs mostly under 0.9x.

It's tough to compare the two.

OZK is funded by low cost deposits thanks to an FDIC guarantee, but that comes with stricter oversight and regulation around the credit risk they can take.   I know Bank OZK's CRE appetite fairly well, they like 24mo deals, have been on the more conservative side on leverage (and still lending), but also are better at setting the expectation of cycling the deal off instead of endless extentions or doing amortizing term debt.   They understand their capital is precious and prefer to do the highest yielding business (construction) and stay in a deal for less time than the average bank.   The risk to Bank OZK is the economy comes to a scretching halt.  You don't want a bunch of construction exposure then. 


mREITs have higher funding cost but their guardrailes come in the form of equity/debt funding costs and an annual audit.   Once they trap the money though, there's not a lot their funding sources can do other than "not give them more".    This is the same for REITs, Invitation Homes is a terrible income investment and should be liquidated, but instead they sit on a leveraged single family rental portfolio yielding less than 4%

[SilentC]

Thank you!  The TX bank is definitely encouraging.  I do need to read up on CECL and maybe some answers will be there.  Still, it seems weird to look at a bank like OZK that has $25mn of NPLs on the CRE portfolio set aside reserves of $200m, and then you look at an mREIT and $1bn of loans are not performing and reserves are $600mn.  Guess that’s a reason OZK trades at 1.25x tangible and those REITs mostly under 0.9x.

It's tough to compare the two.

OZK is funded by low cost deposits thanks to an FDIC guarantee, but that comes with stricter oversight and regulation around the credit risk they can take.   I know Bank OZK's CRE appetite fairly well, they like 24mo deals, have been on the more conservative side on leverage (and still lending), but also are better at setting the expectation of cycling the deal off instead of endless extentions or doing amortizing term debt.   They understand their capital is precious and prefer to do the highest yielding business (construction) and stay in a deal for less time than the average bank.   The risk to Bank OZK is the economy comes to a scretching halt.  You don't want a bunch of construction exposure then. 


mREITs have higher funding cost but their guardrailes come in the form of equity/debt funding costs and an annual audit.   Once they trap the money though, there's not a lot their funding sources can do other than "not give them more".    This is the same for REITs, Invitation Homes is a terrible income investment and should be liquidated, but instead they sit on a leveraged single family rental portfolio yielding less than 4%

Good point re the construction exposure.  Upon further research it also looks like the mREITs and many of the GSIBs for that matter have more downtown office exposure and thus elevated NPLs and skewed ratios of reserves to NPL.

[chasesfish]

I wanted to add one more point around the "bank failure" discussion.

In 2009, the federal reserve had QE going and interest rates were zero.   These devalued bank deposits, 0% checking accounts were more expensive than borrowing on the overnight market (running a branch), and good loan opportunities were tepid.

Today, we have QT and high interest rates.   This dramatically increases the value of bank deposits as a funding source.   This is basically why NYCB was saved (old deposit franchise) and why you don't see more panic in the market over Valley Bank or even Eagle Bank in DC.   Heck, Carter Bank is famously in a fight with the WV governor over the Greenbriar with a huge NPL.   Why does nobody care?   It's a 3.8bil rural deposit franchise and the worst case, they own the Greenbriar and sell it. 

There was so much talk about "marking assets down" for low rate bonds/loans last year, the same applies for "marking liabilities", there's a lot of goodwill competent banks will pay right now for low cost funding via deposit franchises.

[daverobev]

So what would you class as the best 3-5 bank prefs that look decent to you at the moment?

[bluecollarmusician]

Lol... they all looked better a year ago at this time:-p 

[daverobev]

Lol... they all looked better a year ago at this time:-p

Well yeah sure. Alas my TARDIS is broken!

[chasesfish]

So what would you class as the best 3-5 bank prefs that look decent to you at the moment?

You can either take yield today with a 7.25% to 7.75% rate, but a likelyhood of being redeemed when rates fall (PNFPP, AUB-A, UCBIO, and a new MTB issuance that was issued this month and will start trading sometime in June)

or

You can buy mid to high 6% yields at a lower discount to par with some upside when rates fall.   COF-L, COF-N, FNF-F, BOH-A, OZKAP, RF-E all meet this guideline.

Outside of PNFPP and COF, the others sit on wildly valuable deposit franchises.

[ChpBstrd]

I wanted to add one more point around the "bank failure" discussion.

In 2009, the federal reserve had QE going and interest rates were zero.   These devalued bank deposits, 0% checking accounts were more expensive than borrowing on the overnight market (running a branch), and good loan opportunities were tepid.

Today, we have QT and high interest rates.   This dramatically increases the value of bank deposits as a funding source.   This is basically why NYCB was saved (old deposit franchise) and why you don't see more panic in the market over Valley Bank or even Eagle Bank in DC.   Heck, Carter Bank is famously in a fight with the WV governor over the Greenbriar with a huge NPL.   Why does nobody care?   It's a 3.8bil rural deposit franchise and the worst case, they own the Greenbriar and sell it. 

There was so much talk about "marking assets down" for low rate bonds/loans last year, the same applies for "marking liabilities", there's a lot of goodwill competent banks will pay right now for low cost funding via deposit franchises.

Very interesting point. As the value of assets were being impaired by rising rates, we should have also been marking UP the value of liabilities. Of course, some of those 0% checking/savings liabilities migrated to CDs, money markets, treasuries, or even checking/savings accounts with yields. My own local micro bank is paying me 3% or 7% depending on how many transactions I do.

But this may be a case where my cheap bastard mentality and results differ from others’. I shopped aggressively for the best deal in town a dozen years ago and I’m still there only because my bank remains competitive.

There are still lots of people and businesses earning nothing on their bank accounts. I just don’t know what percentage. Intuitively, it seems like the spread between treasury yields and the cost of deposits has remained close to consistent over the years, and so there would be no mark-up. Yet the more I think about it, the more I think I’m probably wrong about that, because most people are too lazy to shop around. How else to explain the existence of 0% checking accounts with fees and poor customer service from mega banks like USB or WF in a world where credit unions are a thing?

So what would you class as the best 3-5 bank prefs that look decent to you at the moment?

You can either take yield today with a 7.25% to 7.75% rate, but a likelyhood of being redeemed when rates fall (PNFPP, AUB-A, UCBIO, and a new MTB issuance that was issued this month and will start trading sometime in June)

or

You can buy mid to high 6% yields at a lower discount to par with some upside when rates fall.   COF-L, COF-N, FNF-F, BOH-A, OZKAP, RF-E all meet this guideline.

Outside of PNFPP and COF, the others sit on wildly valuable deposit franchises.

I still think rates will fall a percent or two over the next 2 years, so to me the callable high yield prefs look like uncompensated interest rate risk. Bank does well > get called. Bank does poorly >lose value. Even worse, rate cuts could accompany some banks doing poorly, and so your banks that are OK call their prefs and you get stuck with whatever assets are not doing well.

The most intriguing preferreds right now, IMO, are the ones selling far below par. One could retire on the yield now and retire on their withdraw rate later if called. The situation to avoid would be getting called at close to the price paid and then facing an environment of low rates.

Most banks have demonstrated how they can do fine in a world of higher for longer, and CRE concerns fade with each passing day. Yet if we’re talking callable yield, there’s a high hurdle between bank prefs and agency / corporate debt with similar yield.

[chasesfish]

@ChpBstrd - Don't underestimate two things.  Laziness of consumers and the value of being the only bank in a particular town.   Older people have more deposits and older people still value having a *place* they can go to work out an issue.  One of my favorite smaller banks ($PPBN) had around a 1.3% all in cost of deposits as of Q1 2024.   Sure, their efficiency ratio runs middle of the pack due to having branches in areas large banks pulled out of during ZIRP.   

In the same general market, $AUB just made an acquisition of a smaller bank at 1.6x book value solely for their deposit franchise.  The business has shifted, in the last decade deposits were viewed as less desirable and nobody could find enough loans.