What’s Happening To The Smaller Banks?

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By Tim Melvin

Consider the life of a banker running a small bank today.

It used to be a great life running one of these little banks. You oversaw a network of 10 or 15 branches in smaller towns or suburbs across the country and were a well-liked business leader of your community.

More than likely you weren’t just a member of the Rotary and other civic groups, you were an officer of the group.

Bankers helped people buy homes, grow their businesses, put their kids through college and even save for and fund their retirement. The employees had good jobs and made decent money and really liked the bank and the officers. The stock price was at a nice premium from the original offering price and most folks in town were pretty excited about that. On weekends, the bankers probably played golf and went to local college games with local politicians, developers and car dealers.

It was a good, some might say, wonderful life

That has changed just a smidgen over the past few years for many of the community bankers. In the wake of the credit crisis, bankers have had to foreclose on people they formerly played with on the high school baseball team. At least two of the golfing buddies have gone out of business because the bank was unable to roll over their line of credit.

Thanks to the new tough lending standards put in place to protect what was left of the balance sheet when real estate prices collapsed, banks turn down most loans these days. The loan officers spend most of their time playing solitaire and circulating their resume on Monster (NYSE: MWW) or updating their LinkedIn (NYSE: LNKD) profile.

Business is awful

Loan demand is down, net interest margins have collapsed thanks to the Feds ongoing zero interest rate policy (ZIRP). Deposit money is walking out the door to the local brokerage offices and insurance agents in search of a return higher than the 1.25 percent smaller banks can pay on a one year C/D. The in-house attorney has advised you that thanks to the new regulations, banks will have to add staff (and costs) to the legal department just to keep up with the flood of new rules and regulations.

The regulators have been frequent visitors digging thought the financials and just generally making life difficult. The stock price has collapsed and now everyone is sitting on big losses and more than a little angry that the bank had to cut the dividend to meet capital requirements. The handicap has gone up 10 stocks in the past couple of years because unless banks have friends in from out of town, they cannot find three people willing to play golf with a banker.

 

 

Life is no longer so wonderful

Now step back and take a look at the bigger picture for regional and community banks. Everyone has the same problems with loan demand and low net interest margins. The regulatory costs are rising for everyone. The weak economy makes growth difficult and there is already a bank branch on every corner of every major intersection across the country.

While the number of banks has shrunk, the number of bank branches has soared from 73,000 in 2000 to almost 90,000 now. Organic growth of the deposit base and loan portfolio is almost impossible. Growing the footprint by opening new branches makes no sense whatsoever. There is only one way to grow and that is by acquiring or merging with other smaller or similar sized institutions in your region.

The executives in the corner offices of the larger community banks and smaller regional institutions are well aware that they have to grow their deposits to spread the new regulatory and compliance costs. Smaller banks need to grow earnings to keep the stock price up and keep stockholders happy.

The only way to grow is to buy other banks and expand the footprint and customer base of your bank. The smaller bank has its guys working around the clock, crunching numbers and comparing branch networks looking for smaller banks that fit your purposes.

Back to the small bank banker that finds himself in a heated discussion with his attorneys. It seems some folks in places like Chicago, New Jersey and Florida have all purchased more than five percent of the share and filed 13D forms with the Securities and Exchange Commission.

The smaller bank has received a very nice letter informing that that at 80 percent of tangible book value, the stock is too cheap and they must do whatever it takes to improve the value of the stock. It is politely stated that the small bank officer is an incompetent manager of the bank and should consider retiring for the greater good of the bank.

Retiring sounds nice at this point

What was a great career has turned into a frustrating, maddening series of impossible challenges and hurdles. Unfortunately, most of the net worth as is the nest egg of most of the other officers and directors of Anytown Bank. All would love to walk away at this point, but the stock price is just too cheap to cash in and move on to another career or retirement.

Scenario

The phone rings at that moment and it is the CEO of Almost Regional Bancshares. He has studied the matter and thinks your network of branches and local business customer base would be an excellent fir for his plans to grow the bank into a serious regional competitor. Furthermore, after studying the assets and loan portfolio, the small bank officer is so convinced that Anytown Bank is a great fit he is willing to pay you a substantial premium over the current discounted value of your shares. How do you think our friend will respond to this offer?

This scenario is playing out all over the US and will continue to do so for most of the next decade. Organic growth is next to impossible and the path to profits lies in mergers and acquisition. Bankers at small and mid-sized banks all over the country are going to be getting these phone calls and many of them are going to be open to selling.

The Idea

Buying small banks at a discount to the tangible book value of the shares is truly going to be the Trade of the Decade.

Tim Melvin is a value investor, money manager and writer. He has spent the last 27 years as in the financial services and investment industry as a broker, adviser and portfolio manager. He has also written and lectured extensively on the markets with his work appearing on RealMoney.com, DailySpeculation.Com as well as several print publication including Active Trader and the Wall Street Digest. You can learn how Tim invests in low risk; high yield stocks by clicking here and watching his FREE webinar now.

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What Makes October Spook Investors?

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What is it about October that brings out the fear in traders? It seems to happen with regularity for there to be no connection at all; but on the other hand, each of the major October stock market surprises has had its own unique circumstances.

Part of it presumably has to do with the fact that professional investors think in terms of calendar year performance. If some cataclysmic economic or geopolitical event occurs that could change the outlook of the market, portfolio managers are systematically hard-pressed to make dramatic decisions versus say, March or April, where they have more time to ride out a potential price storm. “Sell first and ask questions later” is often the first psychological response when it comes to dealing head on with the vagaries of October.

For the better part of this year, the market has put in a pretty steady performance—up over 13%–without breaking its intermediate- and long-term technical trends as measured by the 100- and 200-day moving averages. Nevertheless, there have been plenty of memorably ghoulish Octobers in market history. Below you will find an abridged anthology.

The Panic of 1907
In October 1907, speculators attempted to corner the market in the stock of a well-known copper company. The scheme backfired and the banks that had provided funding to the speculators – most notably the giant Knickerbocker Trust Company of New York – suffered debilitating runs.

The market went into free fall, with the New York Stock Exchange falling over 50% from its previous high mark. The ensuing panic threatened to bring the financial system to a standstill until J.P. Morgan – the man himself, not the institution – stepped in with his own capital to provide stability and oversee an orderly unwinding of the failed banks.

The Panic of ’07 spurred policymakers to try and create more institutional stability to mitigate the extreme boom-and-bust environment of the time.

The Great Crash of 1929
October 24 fell on a Thursday in 1929. Stocks had been on a fervid bull run for most of the second half of the 1920s, reaching a peak in September of 1929. But selling pressure had been building for several weeks by the time massive sell orders hit the floor on the 24th. Stop-gap measures implemented by the New York Stock Exchange held the panic at bay for a few days, but all hell broke loose the following week, with the Dow Jones Industrial Average losing over 23% on the first two days of the week—Black Monday, October 28, and Black Tuesday, October 29. By 1932, the Dow Jones Industrial Average would lose over 80% of its value from the September 1929 high, which it would not regain until a decade after the Second World War.

Black Monday 1987
The market meltdown that happened in 1987, on Monday, October 19th, was the largest single-day loss in U.S. market history—over 20% on all major market indexes. But in hindsight it turned out to be far less damaging than the Great Crash of ’29.

The magnitude of the 1987 crash was driven by technology—specifically the automated trading systems that unleashed massive sell orders without human intermediation. The power of this technology took the market by surprise, and policymakers launched a series of efforts to install “circuit breakers”—mechanisms designed to essentially shut down the markets if a tsunami of sell orders were to threaten another cataclysm.

The Financial Collapse of 2008
Although it was still September when the defining event of the 2008 collapse took place—the bankruptcy of old-line investment banking firms Lehman Brothers and Bear Stearns. The markets saved their worst mayhem for, naturally, another October stock market surprise.

The intensity of the October surprise was related to fears about American International Group (AIG), the insurance company whose failure threatened to unravel trillions of dollars-worth of so-called credit default swaps and collateralized debt obligations, with nearly every major Wall Street financial house staring into the abyss. Regulators and politicians, led by Treasury Secretary Henry Paulson, swiftly cobbled together an unappetizing but necessary bailout to save the system—the aftereffects of which continue to impact these institutions and the markets in general.

October stock market surprises come in many different guises.
As October 2013 approaches there are not too many warning bells indicating another fright is in store as the current tone is generally upbeat. But volatility is elevated due to a potential arms conflict with Syria, as well as the uncertainty surrounding the Fed Reserve’s protracted bond-buying program which the Treasury market has already signaled is heading towards tapering.
Notwithstanding, it is always a good idea to stay alert and be prepared, so here is a brief set of technical clues to consider as you build your own survival guide:

1)Watch for the potential violation of key trend indicators on a sustained time basis–add the 100- and 200-day Simple Moving Averages

2)Look for extraordinary volume on the downside days—apply the Volume Average study which defaults to 50 periods

3)Track the market breadth to see if the number of declining issues persistently outnumbers the number of advancing issues—access the pre-fabricated public list on the platform called “Internals,” or the pre-fabricated public scans called “New Yearly Highs” and “New Yearly Lows” and compare them to see which is outpacing

4)Measure the market’s underlying strength against the price action of the bellwether indexes such as the S&P 500 or NASDAQ 100—add the RSI Wilder study and detect whether there is a divergence, meaning the broader market averages struggle to move higher while the RSI Wilder trends lower—that is a bearish leading indicator

–Jeffrey Bierman

The information contained in this article is not intended to be investment advice and is for illustrative purposes only.

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Huntington Bank’s Acquisition Of Camco Financial Start Of Something Big? (HBAN, CAFI)

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By Benzinga.com

Thursday was a good morning for those who recently went in on Camco Financial (NASDAQ: CAFI).

Huntington Bank (NASDAQ: HBAN) announced its acquisition of Camco for a value at approximately $97 million, including outstanding options and warrants.

Tim Melvin is one of those who bought in just last week. It was a stroke of luck for him.

“It could have been any one of the 25 or 30 (banks),” Melvin said over the phone. ‘”It was an accident.”

Melvin said Camco had been on the radar for a while, its stock trading a pretty good discount to its tangible book value. His firm saw the Ohio-based bank assets dropping steadily over the last quarter and they eventually added it to their portfolio.

“This is the first of many,” he said about the transaction. Melvin expects to see two dozen of the smaller banking firms shutting down or consolidating over the next few years. “It’s a difficult time for the small-town banker.”

Camco operated 22 banking offices throughout eastern and southern Ohio. It had over $750 million in total assets, but was able to sell it off very cheaply. Melvin said the smaller banks are being squeezed down by, among others, low interest margins and higher regulatory costs.

“We see the same story 30 times over,” he continued, “small, cheap banks, have steady credit approval, pressure form the outside to fix or sell the bank.”

Melvin saw activists and investors taking positions in the stock and when they finally got around to call reports, he and his firm pulled the string. Camco shareholders may elect to receive 0.7264 shares of Huntington stock or $6 a share in cash. He will wait on taking new shares of Huntington, which could change when he sees the new proxy.

“There is no room for organic growth,” he said. Melvin sees no organic growth overall in the banking industry – Camco couldn’t move anywhere because there is no business. The former stockbroker believes it makes sense for the smaller banks (25 branches or less) to sell. It’s cheaper for the big banks to buy those small ones instead of opening up new branches.

“CAFI is just part of an ongoing story. Most will end up with the same fate.”

Over the last 15 years, the number of banks has gone down, while the number of branches has gone up. Melvin said the only way to grow is to buy a competitor.

Melvin said by being the first of expected transactions over the next few years, the takeovers can now start to snowball. “There was no set of rules to play,” he said, questioning what type of qualified mortgages and capital requirements would need to be in place for such a buy.

“Regulatory costs are going to be a lot higher for these banks,” he added. The small banks are subject to the same rules of J.P. Morgan Chase (NYSE: JPM) and Citi (NYSE: C). The difference? The big banks have such a higher number of employees and customers.

Melvin says the current government shutdown does not come into play with these takeover. But as it continues on, Melvin rests easy with Huntington.

“I’ll keep buying stocks at 80 percent book value while it works.”

Tim Melvin is a value investor, money manager and writer. He has spent the last 27 years as in the financial services and investment industry as a broker, adviser and portfolio manager. He has also written and lectured extensively on the markets with his work appearing on RealMoney.com, DailySpecualtion.Com as well as several print publication including Active Trader and the Wall Street Digest. Click to watch Tim Melvin’s FREE webinar and learn how to break through volatility using his value stock strategy.

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