tax reform

Here's What My Two Favorite Bankers Think About Tax Reform

Last week, we talked about what the "too-big-to-fail" banks were saying on their earnings calls.

Now, investors have to know what these mega-banks are up to, because they're the 800-lb gorillas of the market, but I don't own a single one of those.

As I mentioned a couple of weeks ago, I like regional banks, because they offer what I like the most: unreasonably good returns.

Naturally, I never miss an earnings call from these guys.

Especially on the first earnings call after the biggest tax reform since 1986 has been passed.

Here's what happened...

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Regionals Offer Big Returns - and a Unique View on Markets

The "too-big-to-fail" banks are good for a macro, top-level read on the economy and which way the major investment winds are blowing.

The smaller banks, on the other hand, have an even more valuable "street-level" perspective.

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Like the majors, these banks are all about tax reform.

Now, most banks are taking a tax-reform-related hit to earnings this quarter, because of tax asset write-downs, but they are pretty much universally bullish on the long-term impact of the tax reductions.

Even more important for investors is how they are using the tax cuts.

Here's What You've Got to Know

Grayson Hall, the CEO of Regions Financial Corp. (NYSE: RF), talked about tax reform last week on Regions' call.

I've got to say... Hall is the poster child for the right way to handle tax savings.

He told investors, "For Regions, tax reform provided the opportunity to make additional investments that will benefit our associates, our customers, our communities and our shareholders. We announced an increase to our minimum hourly wage, benefiting approximately 25% of our workforce. We made a $40 million contribution to our charitable foundation to support financial education, job training, economic development and affordable housing. We also disclosed our plans to invest more in our company with a significant increase in our capital expenditures budget."

Sweet, sweet music to my ears.

BB&T

Because that's exactly what I want to see companies doing with all the extra cash that tax reform pushes to the bottom line.

There's no doubt dividend increases and increased buybacks are a boon for those of us fortunate enough to be in the investor class, but the real benefit of tax reform is the potential to spur new investments, create new jobs, and finally allow us to see meaningful wage increases.

That is much better for, you know, all of us than a buyback that pushes up the value of the executives' stock options.

Here's what I see them doing with that money.

Big Tech Meets Big Money - You Profit

The regionals are big - very big - on technology, in general, and financial technology, or "fintech," in particular, which is a trend I think investors should be aware of.

The need and demand for bank technology and cybersecurity products to protect the tech is going to provide a huge opportunity for tech companies that specialize in financial services products.

I have companies like Fiserv Inc. (Nasdaq: FISV), First Data Corp. (NYSE: FDC), Diebold Nixdorf Inc. (NYSE: DBD), and Jack Henry & Associates (Nasdaq: JKHY) on my watch list right now.

They're not cheap enough to buy yet - that is, "unreasonably" cheap - but I am waiting patiently for the opportunity to buy at unreasonable prices when the industry of the market does stumble at some point.

The same is true of cybersecurity companies like VASCO Data Security International Inc.  (Nasdaq: VDSI), Unisys Corp. (NYSE: UIS), and others that will benefit as financial services cyber spending swells to $9.5 billion annually over the next few years.

Here's why...

William Rogers of  SunTrust Banks Inc. (NYSE: STI) said on his call, "Across our company, we have made and continue to make meaningful investments in technology to modernize our infrastructure and deliver differentiated experiences which embody our purpose, meet evolving client needs, and position us for growth. Specifically, we continue to invest heavily in our mobile app. We made it easier for clients to manage their financial well-being by adding advanced peer-to-peer payment capabilities using Zelle and displaying FICO scores. We gave clients more control over their financial lives by providing the ability to lock and unlock credit cards in real time."

Kelly King, of BB&T Corp. (NYSE: BBT), is, in my opinion, one of the two best bankers in the country today. He also talked about the need for technology spending.

He said, "We continue to invest substantially more in our digital strategy. Our new platform continues to be one of the very best in the business today. We continue to invest in it on a regular basis. Our Zelle P2P program, like all of the other major banks in the country, rolled out recently, it's going extraordinarily well. We have, and we will continue to substantially increase our investment in marketing, around our digital presentation to the marketplace. I mean, this whole opportunity in terms of advanced capabilities and computers, call it, advanced intelligence, artificial intelligence, robotics, all of the things that you're reading and hearing about, this is all real, and banks are just absolutely loaded with opportunities to apply these new techniques to rationalize our expense structures and become more efficient and more effective at the same time."

The "Stupid Factor" Reading Is: Low... for Now

I've said for some time that my biggest reason for optimism is... I just don't see bankers doing anything stupid yet.

Because, as we all know, when bankers get stupid, the economy gets ruined.

John Allison, the chair of Home Bancshares Inc. (Nasdaq: HOMB), is my other pick for best American banker, and he is concerned that the regulators are likely to push bankers toward stupidity.

He said on his conference call that "The burden of unnecessary rules and regulations have had business in a straitjacket for years. I'm told help is on the way, accomplished with the right people in the right places, and we just need to drain the swamp over the next seven years. The regulators mean well, but sometimes they fire the arrow in the wrong direction."

tax reform

He explained that the U.S. Federal Reserve's concern about commercial real estate and construction loans would force banks into unchartered waters to maintain yields.

Mr. Allison remarked that "I have a fear because of the capital climates, but the regulators are forcing banks into more risky commercial and industrial (C&I) loans and long-term fixed rate over occupied loans. And out of construction and development loans, that certainly have the risk, but properly documented with large equity can be a far safer place to loan money."

This is something I have been watching closely, as banks with little to no experience in C&I lending are probably going to make bad loans and begin a "cycle of stupidity" in order to keep up their return on assets in a low-rate world.

Darren King, of M&T Bank Corp. (NYSE: MTB), summed up how most of the larger regional bankers see the world right now.

He said, "Turning to the outlook. Looking forward into 2018, we are as optimistic as we were at this same time last year. The economy appears poised to grow at a faster pace, unemployment remains low, and tax reform has been approved. While there has been little tangible progress in rolling back some of the post-crisis regulatory restrictions on the banking sector, what we are seeing and hearing from Washington is very encouraging."

The regionals tend to confirm the top-level view of the "too-big-to-fail," "money center" banks.

The economy is moving along in a positive direction, and tax reform is providing a meaningful boost. To stay competitive, the regionals are having to spend a lot of money on technology and cybersecurity, and that is eventually going to provide a meaningful opportunity for us when we can get involved at the right price.

While John Allison is quite correct that regulators may well be the cause of stupidity, stupidity isn't at epidemic, crisis levels yet.

You can bet I'll keep my eye on the bankers. If I start to see that cycle of stupidity ramp up, I'll see to it we get out of the way before it happens and get out with our assets intact.

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