The liquidity crunch that emerged at a few institutions in March sent fears through the market and battered bank stocks. The sell-off has left some trophy franchises on sale, according to Tom Michaud, CEO of investment bank KBW LLC, a Stifel Financial Corp. company.
Bank stocks have fallen nearly 20% this year, and some regional banks — First Republic Bank, PacWest Bancorp and Western Alliance Bancorp. — have lost more than 45% of their market value, led by First Republic, whose stock has fallen nearly 90%. Michaud said in the latest Street Talk podcast recorded on April 4 that the market likely will remain choppy as investors wait for more clarity on the economy, credit quality and potential regulatory changes, including new Federal Deposit Insurance Corp. insurance proposals due on May 1. But, ultimately he expects a sharp rally for the bank group because valuations look "incredibly attractive for the average bank."
"I have always found that in my career, the number one strategy has been to buy the trophies when they're on sale, and there are a lot of really high-quality companies and banks that are on sale at the moment," Michaud said.
"I think some of these stocks are incredibly attractive, as long as you can be willing to ride out the next six to nine months," Michaud added. "And my opinion is that most banks will not cut their dividend. Even some of these dividend yields that you can see at 6% and 7% look remarkably attractive to me. We don't need banks to increase them. We just need them to pay them."
Michaud acknowledged that bank earnings estimates will decline as the Street assumes higher funding costs, tighter net interest margins and smaller balance sheets in the wake of the liquidity crunch. He further noted that credit costs will begin rising off a historically low base in the second half of 2023 as provisions for loan losses and net charge-offs move toward more typical levels.
Michaud believes that the fears following the failures of Silicon Valley Bank and Signature Bank seem to have calmed down. He further noted that the Federal Reserve's H.8 data, which tracks commercial bank balances on a weekly basis, shows that the outflows from panic appear to have subsided. However, the executive expects outflows to persist because surge deposits that flew into the banking system during the pandemic still represent 11% of the industry's deposits. Some surge deposits have already moved out of banks and into the Treasury and money markets and he expects that trend to continue.
"I think we're in for a bumpy ride in terms of deposit outflows generally," Michaud said. "What's happened is that every time the Fed has raised rates, it's made government securities more competitive with bank deposits."
Michaud expects banks during the upcoming first-quarter season to provide more detail on their deposit bases, liquidity and additional levers available to their franchises.
Michaud also expects some changes to the regulatory framework but hopes that policymakers do not respond to the recent turmoil with dramatic changes. He expects a regulatory ratio that includes mark-to-market accounting on securities portfolios, which is only applied to US global systemically important banks (G-SIBs). He believes that regulators will also put a much greater focus on customer and industry concentrations in deposit and loan portfolios.
Michaud said there could be changes made to deposit insurance, and he advocated for increasing the deposit insurance cap above the current $250,000 limit and providing unlimited insurance for operating, transaction accounts. Michaud also supported mechanisms that would allow banks to buy more deposit insurance from the FDIC.
Michaud believes that the recent liquidity crunch and actions that could follow will encourage more M&A activity, which has nearly slowed to a halt in 2023. The recent focus on institutions with high levels of uninsured deposits could prompt commercial banks to have a larger retail business, he said. The executive also noted that new regulations that could surface likely would prompt more M&A activity.
"They could sell to a bank that has a retail platform or they could build it, so there are a variety of ways that they could get down that path," Michaud said. "Then I think if regulation becomes more expensive, that always encourages consolidation for a couple of reasons. One is, I think the regulators like to see banks get inside bigger banks that have already built the systems as the way they like to see them. That's number one. And then number two, the cost of regulation is more efficient when you're in a bigger company."
"Street Talk" is a podcast hosted by S&P Global Market Intelligence.
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