4 of the 5 best performing industry groups year-to-date are regional banks (based on Morningstar data):
|Regional – Midwest Banks||10.48|
|Regional – Mid -Atlantic Banks||9.81|
|Regional – Pacific Banks||9.77|
|Regional – Southeast Banks||9.10|
I’ve heard a handful of different explanations for this recent outperformance by the regionals. I’ll list them below…
1. They’re still cheap. Depending on whom you talk to, cheap could mean different things. For example, “cheap” could be that on normalized earnings (whenever the hell we see those again), the regionals are selling at lower multiples than the money centers. It could also be that, for example, the mid-atlantic banks only gained about 6% over the last 52 weeks versus much greater gains for most other sectors.
2. Big Short Positions Being Unwound. Shorts may be worried that the next shoe to drop (commercial re) ain’t going to drop. Regionals generally have much greater exposure to commercial lending in their local areas, specifically of the real estate variety. This has been a well-documented are of concern but with signs of a recovery elsewhere, it could be that the shorts have grown antsy waiting for la deluge and have begun to do some covering.
3. Congress Leveling the Playing Field. In the last week or so, the big banks like Citi, Goldman, JPMorgan and Bank of America got a glimpse of the regulation headed their way. Without the vast profits from all the underwriting, prop trading and other hedge fund-like activity, are the big guys worth owning? Or should managers looking for bank exposure be switching away from a potential multiple compression event and into the regionals? Also, will talent be up for grabs as bonuses from the big 8 or 10 banks get more modest?
4. Consolidation Elsewhere Finally Spills Over. Since the start of the year, we’ve seen a reawakening of the M&A beast as mega-transactions involving Kraft and Cadbury, TOTAL and Chesapeake, Novartis and Alcon have been announced. Could this be the year where the regionals either start merging or begin to serve as fodder for global banking giants who want to grab some US market share?
5. Populism and Bailout Backlash. Regionals took TARP money too, but the perception in this country is that same giant NY-based banks who are bombarding us with fees and credit card bills are the same banks that soaked the taxpayer and are the very same banks who own congress and who are paying their people disgusting amounts of compensation. Guys I talk to across the country have been strengthening their relationships with local banks and pulling business from the Wachovias and the Citis when and where possible. This disgust amongst the populace may finally begin showing up in the assets and (dare I say) profits of some of the better-run regional outfits.
These aren’t my rationales for the regional bank rally and I don’t know how much I buy into any of them, but this is the chatter that’s out there. Sometimes, a rotation is just a rotation and there doesn’t need to be any hard and fast reason behind it.