This morning, Bank of America (BAC) and Goldman Sachs (GS) reported earnings. Every Muppet with a stock portfolio knows who these companies are. And every media outlet will gush or hyperventilate over each bank stocks profits, revenue, and outlook.
I don’t care about these companies. I prefer another area in the financial sector—one with a goldmine of potential.
So, if you’re not taking advantage of a 35-year trend that has consistently made investors money, I don’t know what to tell you. It’s simple. And it’s obvious. It’s as if you hate money if you’re not taking advantage.
A Diamond in the Rough
The Federal Reserve could raise interest rates four times in 2022 and several additional times in 2023 and 2024. This would be an aggressive push toward the “normalization” of interest rates and provide a boost to banks, whose bread-and-butter business is lending.
Over the weekend, MarketWatch offered an article for investors to cash in on this story. The title: “These 14 bank stocks are in the best position to benefit from rising interest rates.”
Fourteen? Fourteen! Don’t even get me started on trying to find where to get started on 14 banks.
The list does include a few names of banks that I do like. New York Community Bank (NYCB), Huntington Bancshares (HBAN), and First Republic Bank (FRC). But the author is writing about several different figures that don’t matter when you’re looking to buy and hold a bank.
There’s the speculation about Forward Price-to-Earnings, which is speculation on the future. There are various earnings per share estimates – again, speculation. There’s very little analysis on whether any of these stocks are – well – cheap. In the world of banking, there’s only one metric you need to use to look for cheap banks…
Price to Tangible Book Value (P/TBV)
This is the stock price compared to the company’s liquidation value.
So, imagine that a bank sits across the street with $1 million in the vault. The bank owns the land and has few costs. For practical purposes, let’s just say that the liquidation value of the bank is $1 million.
But for some reason, the bank’s market capitalization on the public market is $800,000. That would be a price of $800,000 on a tangible book value of $1 million. Or 0.8.
Banks might trade under their tangible book value for many reasons. They might be illiquid in terms of trading. They might face regulatory hurdles. Finally, they might just be banks that no one has ever heard of – and the herd prefers to own JPMorgan Chase (JPM).
Well, I want to stress that there is ample opportunity in these cheap banks with low price to tangible book values. Here’s why.
Since 1987, community banks have consolidated at a 3% to 5% annual average rate. Yes, there are some outlier years, but the trend remains. Back in the 1980s, there were 15,000 banks in the United States. Today, there are under 5,000.
But don’t mistake this consolidation as a sign of slowing down. Remember, by comparison, Canada has six banks. The U.S. number could always fall to that level in the decades ahead.
Look at community banks that are trading under a price to tangible book value of under 1. Why? Because these are easy targets for takeovers. It used to be common for a bank to be taken over at a price to tangible book value of 2. But, unfortunately, those days appear to be fleeting…
But even a multiple of 1.6 for a takeover today can now make you a good sum of money. So, let’s look at the banks MarketWatch recommended and the cheapest 14 banks based on their price to tangible book value.
MarketWatch’s Recommended Bank Stocks
|Huntington Bancshares Incorporated||HBAN||2.26|
|Eastern Bankshares, Inc.||EBC||1.35|
|State Street Corporation||STT||2.4|
|Bank of New York Mellon Corporation||BK||3.15|
|Western Alliance Bancorp||WAL||4.24|
|Northern Trust Corporation||NTRS||2.69|
|New York Community Bancorp, Inc.||NYCB||1.53|
|First Republic Bank||FRC||2.95|
|Webster Financial Corporation||WBS||2.17|
|Valley National Bancorp||VLY||1.93|
|Truist Financial Corporation||TFC||2.83|
All the price to tangible book values of these stocks are OVER 1.35.
In fact, in terms of merger and acquisition targets, only two stocks have attractive metrics, but they are so large that they are unlikely to ever find a deal.
Now let’s look at the cheapest lot of community bank stocks with an average share volume of more than 10,000 shares per day. (Note: Some of these stocks are illiquid, so if you’re going to research and purchase any, be sure to use limit orders and DO NOT buy at market price.)
The Cheapest Bank Stocks
|Company||Ticker||Current Price||P/TBV||Avg Daily Trade Volume|
|OptimumBank Holdings Inc||OPHC||$4.22||0.58||17,294|
|AmeriServ Financial Inc||ASRV||$4.01||0.69||11,657|
|Republic First Bancorp Inc||FRBK||$3.96||0.72||218,220|
|NorthEast Community Bancorp Inc||NECB||$11.31||0.75||59,229|
|Sterling Bancorp Inc||SBT||$5.80||0.88||26,293|
|William Penn Bancorporation||WMPN||$12.76||0.92||13,143|
|Patriot National Bancorp Inc||PNBK||$15.32||0.93||22,714|
|Territorial Bancorp Inc||TBNK||$25.12||0.93||14,011|
|CIT Group Inc||CIT||$53.50||0.96||1,747,859|
|ESSA Bancorp Inc||ESSA||$17.49||0.98||11,779|
|The Bank of Princeton||BPRN||$30.40||0.98||15,408|
|Provident Financial Holdings Inc||PROV||$16.87||0.99||14,912|
|First Financial Northwest Inc||FFNW||$16.66||0.99||11,917|
|Amalgamated Financial Corp||AMAL||$17.24||0.99||57,399|
I’ll make a bet with anyone that the latter portfolio does far better than the MarketWatch portfolio over the next five years. I’ll ride the M&A wave and still benefit from higher rates while someone else speculates on speculative forward-looking ratios.
You’re better off using the M&A strategy on top of higher rate expectations than just buying from a list on MarketWatch. I don’t want to bash the analyst who wrote that article, but there was no true strategy for purchasing that first list aside from estimates on what the future MIGHT look like for these banks based on earnings expectations. Instead, I’d prefer to look at the market pricing the stocks at RIGHT NOW and take advantage of a 30-year trend.