I spent the past couple of days in Atlanta, at the FIG Partners "See Around the Curve" bank CEO conference. I came back with some observation and information relative to the community bank sector that reinforces my long-term view of the sector. Talking face-to-face with the bank CEOs, hedge fund investors, activists and brokerage salespeople and traders helped increase my conviction that this is where you need to have a significant portion of your long-term assets invested.
Reinforcing the case for investing in the smaller banks, several mid-sized banks with assets over $20 billion said that rather than make a bigger deal they found it much more productive to buy several banks with less than $1 billion in assets, because they were easier and cheaper to integrate and the cost take- outs were much higher than buying a single, larger $3-$5 billion asset bank.
One strong consensus that came out of my discussions was that banks with less than $500 million in assets are already half sold. They just haven't gotten the memo yet. I talked with one CEO of a bank that is about $550 million, and he acknowledged that he had to find another bank to buy soon, as his window for staying independent was shrinking rapidly. I have said repeatedly that buying these banks below book value is a slam dunk, and no one to whom I ventured this hypothesis this week disagreed.
It was widely agreed that there was now a floor that you had to reach to remain viable. The minimum is $1 billion in assets, but several folks I spoke with felt the number is actually higher, at around $3-$5 billion. Those banks that want to stay independent will have to go down the M&A trail to reach that size. The caveat here was that if you approached the $10 billion level where you fell under the supervision of the Consumer Financial Protection Bureau, you needed to be prepared to go way over that level. One Texas bank CEO said that crossing $10 billion was a lot like getting it in the head with a baseball hat. The CFBP is apparently very aggressive and several bankers told me they are being forced to provide office space for as many as 20 regulators.
Just about every banker I talked with was in growth mode. In past years, no one said too much about marketing against the big banks, but the banks at the conference were now all devoted to marketing against and taking market share from the big banks. One CEO said in his presentation that the big banks with their impersonal touch and increasing fees basically served as his marketing department. Another said that his bank's strategy was to simply "out-people and out-service" the big banks. Everyone I spoke with felt that those banks with sufficient assets could take share especially from Citigroup (C) and Action Alerts PLUS charity portfolio holding Bank of America (BAC) on both the loans and the deposits sides of the business.
On the risk side, several bankers said they were starting to see some stupid loans creep back into the market place with low downpayments, loose terms and high loan-to-values. It was not widespread, but everyone is surprised that given how this worked out last time, anyone would consider it all. One southeastern banker said that in his region he was seeing commercial and industrial, as well as commercial real estate loans made to small business owners without a personal guarantee by the owners. He said he had never seen that before and he found it worrisome, as such a loan would allow borrowers to simply walk away and leave the banks with nothing should the business fail. The other big concern was the market for loans is so competitive it is hard to price for risk and still grow the loan book.
One of the biggest concerns facing the smaller regional and community banks is cyber security. One banker reported over two million attacks in just the past year, while another reported that the number of cyber-attacks had grown ten-fold. He added that 90% of the traffic on his servers was either an outright cyber-attack, scam of phishing effort. Firewalls that the banks thought would last five years are now obsolete after just a year or two as attackers get more sophisticated. There will be an enormous amount of money spent on bank cyber security in the years ahead and it will be a recurring expense. This really favors companies like Unisys (UIS), which have a cyber security program specifically designed for banks.
I have pages of notes and hours of recordings still to review form the conference, but these are the major takeaways. The over-rising thought remains that, if you are not investing in smaller community banks, you are making a big mistake of omission.