Sixty Guilders Research – Bank Stocks

Sixty Guilders Research – Bank Stocks

By Dimitri Triantafyllides

Bank stocks have been murdered in 2016.

Why may you ask?, as we are home to the serial-build-sell banking industry. There are 3-4 main reasons for the acute nature of their drastic underperformance:

  • Net Interest Margin squeeze;
  • Bond Yields plummeting (prices up);
  • Revenue & Earnings decline; and
  • The Federal Reserve CANNOT manufacture economic growth.

Banks make money by charging a spread on money they lend – quite simple. When the slope of the Interest Rate Curve flattens bank earnings (by definition) decline, just like gravity. Avoiding mistakes is the general role of a decent banker.

Additionally, the disruption in the credit markets (lending to lower quality companies) decreases the willingness of banks to lend. As one banker recently told me, “the loans we want to actually make are so high quality the pricing is terribly competitive, so we make no real margin”.

Net, net – bank stocks do not perform well as the interest rate curve flattens (we have been pounding the 10 year – 2 year Treasury spread signal) and with an uncertain environment. Unfortunately, banking is often counter-cyclical and the biggest loans are made at market tops.

As banks have strengthened their balance sheets since the financial crisis this has resulted in reduced leverage, and as a result, return on equity has suffered. Therefore, reduced profitability from a flattening yield curve, has lead to not only an anemic return on assets (ROA at less than 1% for the banks we track), but also an inability to leverage this return to an adequate return on equity (ROE of 8.3% for our coverage universe of banks for the most recent year, and heading even lower going forward, in our opinion).

We do not recommend owning bank stock. However, in many cases the preferred securities and bonds of banks are quite attractive. We continue to like income securities into the face of a slowing macroeconomic environment.

Thank you for your interest in Forest Capital and Sixty Guilders Research.

Disclosure Statements

This report is for your information only and is not an offer to sell or a recommendation to buy the securities or instruments named or described in this report. Additional information is available upon request. The information in this report has been obtained or derived from sources believed by Sixty Guilders Research, LLC (Sixty Guilders) to be reliable, but Sixty Guilders does not represent that this information is accurate or complete. Any opinions or estimates contained in this report are current as of the date of the report and are subject to change without notice. Copyright © 2016 Sixty Guilders Research, LLC.

Conflicts of Interest. Sixty Guilders, its employees and its affiliates may from time to time hold securities mentioned in this report, either long or short, whether relying or not on information provided in this report.
Sources of Information. The information in this report has been obtained or derived from sources believed by Sixty Guilders to be reliable, but Sixty Guilders does not represent that this information is accurate or complete. Estimates for revenue and cash flow (EBITDA) are derived from street expectations as of the date of publication, therefore changes following the publication of the report are not reflected in the report. Other estimates in the report are provided by Sixty Guilders and may similarly be changed following the publication of the report.

Ratings. Sixty Guilders does not provide buy, hold or sell recommendations on the debt and equity securities profiled in its reports. Instead, Sixty Guilders force-ranks securities under coverage on a percentile scale, ranging from 100% (highest possible percentile) to 0% (lowest possible percentile). As a result, Sixty Guilders’s rankings are evenly distributed across the percentile spectrum of 100% to 0%. In its reports, Sixty Guilders discloses rankings for a company’s equity appeal and credit quality in 10 percentile increments rounded to the lowest 10 percentile increment. This format is also followed for a company’s peer group (“industry sector”). Industry sector rankings similarly rank sector fundamentals against the broader Sixty Guilderscoverage index. In order to preserve the ranking relevance on our index data, company credit and equity percentile rankings are not rounded when displayed on the index. Furthermore, rankings on company reports are only current as of the publication date of a report, and may change as a company’s credit or equity relative appeal may improve or deteriorate following the publication of a report. Since our index data are updated daily, credit and equity rankings on the index are more current than those published in reports whose publication date may have been several days or weeks prior to the most recent current ratings.