Our contrarian thesis in regional bank stocks has played out well in the past few weeks, as other investors are beginning to see that these companies are under-appreciated, under-priced, over-hated and over-shorted.
The iShares Regional Banks (NYSE: IAT) ripped higher by more than 8% in the past week alone. And I still think that many of these stocks have a long way to go, since fair value in some cases is 2x, 3x, and even 5x higher than current levels.
Super-regional southern bank Regions Financial Corp. (NYSE: RF), for instance, traded as high as $32.50 in 2007, then fell as low as $2.27 in 2009 - a decline of 93% in just two years. RF's recovery has gotten off to a much slower start than peers like U.S. Bancorp (NYSE: USB) because it made a lot more iffy loans along the Gulf coast. But over the past six months, it has become clear that super-low interest rates will allow RF to build enough reserve against losses. Additionally, other distressed-debt firms are stepping up to take problem mortgages off their hands.
Now that it has become clear that RF is not going under, it has dawned on investors that it is worth a lot more than $2.27 a share. It may not see $32.50 in the next three years, but $21 is certainly in reach if the U.S. recovery continues to gain traction, and that's 2.5x higher than the current quote. If you want to put on rose-colored glasses and dream a little, you'll notice that in its last crash recovery RF exceeded its old high by 50% before topping out. I'm not saying that will happen again quickly, but it would not be shocking to see it occur over a seven year period; that would be around $48.50, or 5.5x the current price.
Lest you think that this idea is too late to be meaningful, let me remind you that last week the world's second largest private equity firm, The Carlyle Group LP, said it raised $1.1 billion for its first fund targeting investments in financial services. This is not dumb money. In fact, Carlyle is one of the places that highly connected ex-government officials often find jobs after retiring from public service. Its financial services group includes a former U.S. Treasury undersecretary, a former Wachovia Corp. treasurer and is co-headed by P. Olivier Sarkozy, the half-brother of French President Nicolas Sarkozy and a former Swiss banker.
Carlyle last May joined with Blackstone Group LP (NYSE: BX) to buy a stake in failed Florida lender BankUnited Financial Corp. (NYSE: BKUNQ), and according to the company's chief has now assembled a larger group to "capitalize on a range of opportunities in the financial services space."
As a measure of how hated the U.S. distressed-bank industry is, Bloomberg reported that it has taken four times longer to get commitments of $1 billion from investors than it did in 2004. The new fund has already spent 30% of its funds, including a stake in Boston Private Financial Holdings Inc. (Nasdaq: BPFH), which went from $32.50 in 2006 to $2.50 in 2009, and is now trading at $8.25 a share.
There are many of these high-potential regional banks out there, and I'll do my best to bring them to your attention this spring. But if you just want to capture the idea in the most conservative way, the IAT fund is the way to go.
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