In A Weak Banking Sector, Investors Taking A 'Wait And See' Approach With TCF Financial

With banks trading at uncommonly low valuations - Barclays analyst Jason Goldberg calculated recent sector valuation as being in the 15th percentile of the past 35 years - you can pretty much throw a dart blindfolded and find a cheap bank. While it's true that sector performance determines a lot of individual stock performance (I've seen studies suggesting about 70%), I still believe quality eventually wins out, and I think TCF Financial (TCF) has more quality to it than the shares would seem to reflect.

The integration of the merger of equals between Chemical Financial (NASDAQ:CHFC) and TCF is off to a good start, and there are still meaningful synergies to look forward to, as management continues to target meaningful (mid-teens) savings relative to the pro forma starting point. Beyond that, though, I also see underappreciated potential to take share in its upper Midwest operating footprint, grow the commercial business through low-risk cross-selling, and remain active in M&A in the relatively near future.

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In A Weak Banking Sector, Investors Taking A 'Wait And See' Approach With TCF Financial

Chemical Financial About To Double In Size With An Unexpected Merger Of Equals

I’ve been bullish on Chemical Financial (CHFC) for a little while now, as I liked the prospects for this community banking-oriented financial company to gain deposit share in Michigan and surrounding states as larger banks looked elsewhere for growth. Although I thought M&A was certainly going to be a part of the company’s future, I was surprised to see the merger of equals with TCF Financial (TCF) announced in tandem with fourth quarter earnings.

TCF has never been my favorite bank, but I like this combination, and particularly as there will be a lot of Chemical Financial executives still in positions of authority in the combined company. I believe this is a good blending of relative strengths, and it may well be a blueprint of deals to come in the Northeast and Midwest as larger banks no longer seem so interested in sizable whole bank acquisitions in those areas. Modeling the new combined entity takes a little more guesswork than I’d like, but I believe this combination is undervalued today and well worth consideration.

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Chemical Financial About To Double In Size With An Unexpected Merger Of Equals

TCF Financial's Specialty Lending Business Should Help Ease A Big Transition

It takes time for banks to remake themselves, but TCF Financial (TCF) is underway with what will be a multiyear process of becoming a more focused, higher-quality bank focused on middle-market depositors and specialty lending. Although there will be some headwinds from this transition, TCF's above-average asset sensitivity will ease some of those challenges. My biggest issue with TCF at this point is the valuation - while I'm on board with the idea of paying more for asset-sensitive banks at this point in the cycle, TCF has enjoyed a very strong run over the past year and banks like Comerica (CMA) and First Horizon (FHN) have fewer issues for similar premiums relative to fair value.

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TCF Financial's Specialty Lending Business Should Help Ease A Big Transition

Seeking Alpha: Growth And Self-Improvement Versus Value At TCF Financial

Regional mid-cap bank TCF Financial (TCB) hasn't been shy about changing its business model to adapt to the new realities of the banking market. The company has cleared out a lot of its high-cost capital and shifted its operational focus towards a national specialty/niche lending platform with a low-cost local deposit base. The model TCF Financial is following carries above-average risks and the shares are not particularly cheap by convention means, but this bank looks poised to be an above-average grower at a time when bank earnings growth is hard to find.

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Growth And Self-Improvement Versus Value At TCF Financial

Investopedia: U.S. Bancorp Standing Out And Outstanding

For investors leery of the extent to which banks have been making their numbers on the back of reserve releases and "non-operating" charges, U.S. Bancorp (NYSE:USB) is a breath of fresh, clean air. Once again U.S. Bancorp has distinguished itself from its peers with a strong quarter. While some investors may be put off by the relatively low percentage of actual banking within USB's business mix, this company seems undervalued and underappreciated by the Street today.

Finally, a Bank with a Clean Result   

Because of the impact that decisions like security sales can have on financial results, there will never be a perfectly clean quarter for a major bank, but U.S. Bancorp's second quarter results are close enough for jazz. Better still, they were largely on target with the expectations laid out by management.

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U.S. Bancorp Standing Out And Outstanding (USB, WFC, TCB, C, BAC, BK, STT)

U.S. Bancorp Worth Checking Out

The banking sector is still a big hot mess. Banks are still going under every Friday and good news usually consists of things getting less-bad. In this sort of environment, banks that were not very well run going into the crisis are looking better than the best-run banks ... mostly just because that recovery from "bad to less-bad" is much more pronounced for them. 

With that in mind, I would not expect any huzzahs and handsprings over the results posted by U.S. Bancorp (NYSE:USB) on Tuesday morning. Yes, USB is still one of the best-run large banks in the country and its conservative lending policies and diverse income streams will serve it well as loan demand rebounds. But all of that is already known by the market and the quarter-to-quarter improvements from bank companies like USB just do not look as impressive when stacked up against the likes of Zions Bancorp (Nasdaq: ZION), Popular (Nasdaq: BPOP) or TCF Financial (NYSE:TCB).

A Good Quarter All the Same 

U.S. Bancorp's first quarter may not meet the standards for "great," but it was no worse than good enough. On an operating basis, the company did beat expectations, though not by much. Revenue slipped almost 4% from the fourth quarter, largely because of a sizable drop in fee income. Net interest income performance was alright - net interest margin fell (due to deposit growth), but earning assets grew and loan growth was up a bit as well.

USB saw much lower provisioning this quarter, falling 17% from the fourth quarter and more than 40% from the year-ago level. Within the balance sheet, NPLs were basically flat, though total non-performing assets (minus covered loans) did increase about 4% on a sequential basis. Expense control was also solid, as expenses fell about 7% on a sequential basis.

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Investopedia: Prefer Dividends? Why Not Look At Preferred Stock?

Everybody assumes that there is a lot of demand for, and interest in, articles and columns detailing growth stock ideas. While that is true to a point, it is also true that there is a strong interest in income ideas as well. What is interesting, though, is how relatively little there is out there about preferred stocks and their close cousin, trust preferred securities. While these are not flawless investment options, they should be a serious consideration for many income-oriented investors. 

Preferreds - Some Good, Some Bad
In brief, preferred stock is something of a hybrid security that combines features of fixed income and common equity. Preferred stock is higher up in the credit structure than common equity and preferred shareholders are almost always entitled to dividends before common shareholders get any. On the other hand, preferred stock does not grant voting rights and investors often see significantly limited upside when the company thrives, as preferred stock dividends are usually locked in while common stock dividends can be whatever management can afford to pay. (For more, see A Primer On Preferred Stocks.)

Investors should also realize that their choices are quite a bit more limited when it comes to the companies and industries that issue preferred stock. Look at the rolls and investors will see a lot of banks and real estate companies, as well as some insurance and utility companies. By and large, industrial, health care and tech companies have no need to issue these securities.


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Investopedia: U.S. Bancorp Could Bring Investors Back To Banks

Many banks, but particularly the large banks like Citigroup (NYSE:C), have found the quality of their recent earnings reports challenged by those who do not approve of the large loan loss reserve releases that have buoyed the reported numbers. Does that change now, though, since conservatively-run U.S. Bancorp (NYSE:USB) has joined the list of banks recognizing reserve releases? While USB's reserve release was quite modest and the company's credit quality stands out as quite good, it may ultimately be a sign that conditions really are getting better for the banks. 

The Quarter That Was
It is easy to get bogged down in the details of bank earnings releases, so here are some of the most significant take-away points.

USB saw revenue increase 1% on a sequential basis and 3% on an annual basis for the fourth quarter. Net interest income was up 1% and 6%, respectively for those time periods, while non-interest income was up 5% and 10%. Non-interest income has long been a very significant part of U.S. Bancorp's business (and a reason that the company fared better during the recession), but investors should realize that the numbers this quarter were inflated by some "other" items that may not be repeatable. Netting out all of the "other," this item would have been down 3% sequentially and up 9% annually.

USB saw its net interest margin fall slightly, but 3.83% is still a very good result. Average earning assets were up 3%, and the company increased its loan book by 2% (or 1% net of acquisitions). Although a higher net interest margin would be much better, this is what bank investors should want to see - loan growth, net interest income growth, and so on.

Credit quality continued to improve in the fourth quarter. The company recognized a small reserve release ($25 million, or about one cent of EPS), and non-performing asset and charge-off ratios all improved (and are at good levels on a relative basis). Investors should also note that U.S. Bancorp has reserves well in excess of current non-performing loans (162%) - that is very conservative relative to other banks like Comerica (NYSE:CMA) or the also extremely well-run M&T Bank (NYSE:MTB).

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Investopedia: More, Better, Faster Please

If a part-time investor can read all of Citigroup's (NYSE:C) earnings and not get a headache, that is an impressive accomplishment. After all, just consider the impact of credit value adjustments (CVA) in this period - Citi incorporated a $1.1 billion loss into its earnings because its debt actually became more valuable. So, things are getting better at Citi, and that causes them to recognize a loss. That is just part of the fun-filled, anything-but-logical world of bank accounting, but investors who can maintain the patience and inner peace to look through all of this might still find an interesting recovery/rebound prospect in this stock.

The Quarter That Was
Okay, here is a quick run-down of the major salient points of Citigroup's fiscal fourth quarter earnings. Revenue (excluding that CVA) was down about 6%. Weakness in investment banking (fixed income revenue was down almost one-third sequentially) certainly hurt, but a 3% net interest income was pretty feeble in its own right, as was the decline in net interest margin to below 3% (2.97%). Consumer banking was "stable" overall as pretty good overseas performance covered up for a 5% decline in North America.

Credit was better, as the NPA ratio improved 44 basis points (to 3.25%) and the NCO ratio declined as well, as non-performing loans dropped 13% sequentially. Feeling better about credit, Citi released about $2.3 billion from its loan loss reserves (that is, the company's charge-offs exceeded the provisions it took for bad debt), with a little more than half of that coming from the consumer business. On the other hand, the company is having to build its litigation reserves - a common issue these days for large banks like Citi, Wells Fargo (NYSE:WFC), Bank of America (NYSE:BAC) and others facing legal disputes with mortgage borrowers, mortgage insurers (like Assured Guaranty (NYSE:AGO), and mortgage buyers like Fannie and Freddie.

More Trouble Still to Come?
Speaking of Freddie and Fannie, Citi may not really be out of the woods here just yet. The company spent about a quarter-billion dollars this quarter buying back mortgages, but a Bloomberg report suggests that Citi has still been selling an unacceptably high percentage of bad loans to Freddie. Still, it would seem likely that the worst of the mortgage repurchase issue is over for Citi, at least as it pertains to the GSEs Fannie and Freddie. After all, if Bank of America got a pennies-on-the-dollar deal, why would Citi not expect the same? 


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Feds Nickel And Dime The System

Apparently the federal government is not finished trying to tinker with bank and finance laws in the hopes of creating a consumer paradise. Unfortunately, the laws of unintended consequences are still in effect, and changes to interchange fees could create a lot of turbulence in the business of processing the millions of debit card transactions that occur every year.

The New Rules
Although nothing is final yet, on Thursday the Federal Reserve proposed significant changes to the debit card processing business. The most important part of the potential new rules concerns the interchange fees that banks receive every time a card is swiped. While transaction fees had been averaging about $0.44, or about 1.1% of the transaction value, the new rule would cap the fee at $0.12 per transaction. Clearly that is a major cut in a line of revenue that had been virtually pure profit for the banking industry. (For related reading, see Watch Out For Changes In Credit Card Agreements.)

Shoot First, Ask Questions Later
While there were expectations that limits of some sort were in the offing, investors were taken aback by the scale of the cut and blasted Visa (NYSE:V) and Mastercard (NYSE:MA), the two largest card network operators. Although these fees are not part of the companies' revenue (even though they set them), investors seem to be making the assumption that banks will push back hard on these networks and demand some sort of concessions in the fees they have to pay to help make up the difference. Apart from the fees, there is also a risk that new rules will come into play that will promote and increase competition in the network space and that could be a direct problem for these companies. 


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U.S. Bancorp Rises To The Top

Good times can make it easier for investors to confuse the pretenders with the long-term winners, particularly if those pretenders are willing to ratchet up the risk and leverage in their business model to reap easy profits. When times get tough though, it is the best models and management teams that rise to the top. With the banking sector still firmly in the midst of malaise, U.S. Bancorp (NYSE:USB) is making a case that it may be the best bank investors can buy. 

The Quarter That Was
Two significant points jump out with U.S. Bancorp's third quarter release - first, the company actually beat the consensus revenue estimate, and it did not need to release any reserves to meet or beat its earnings target.

Revenue rose 1.5% on a sequential basis, helped by a 3% sequential increase in net interest income. Unlike many banks, USB showed an increase in net interest margin (tiny as it may have been), and loans actually grew on a sequential basis. Total non-interest income was flat on a sequential basis, but fees did rise 5% as the company was able to offset deposit fee declines prompted by new banking regulations. 


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Bank of New York Marking Time

Custody banks like Bank of New York Mellon (NYSE: BK) do not generally get all that much attention. These "banks' banks" operate huge businesses involving trillions of dollars, but they take only tiny percentages of these awesome amounts and generally run themselves quite conservatively. As a result, the average investors' default response is to scrunch up their faces at the blizzard of numbers they report, sigh at the generally modest growth and move on to other ideas. 

That could be a mistake, however. While custody banks are not operating the most exciting businesses in the world, they are gatekeepers and toll collectors in the massive financial services industry and an integral part of an industry that seems poised for worldwide growth. So, while regular banks like Wells Fargo (NYSE: WFC) and TCF Financial (NYSE: TCB) worry about loans and deposit share in their home markets, and Morgan Stanley (NYSE: MS) battles for hegemony in trading and asset management, BNY quietly services hundreds of banks and asset managers across the world. 



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How About Santander & BB&T?

Ok, I know there is plenty of real news right now and I probably should not be spending my time on idle speculation. I also know rumors are a dime a dozen, and I really do not want to be involved in starting any myself. But I find myself wondering whether Spain's Santander (NYSE: STD) would think of having a go at BB&T (NYSE: BBT).

First, let me start by saying that I own BB&T, so I certainly have a personal financial interest in this notion.

I think it is pretty clear that Santander is not finished acquiring assets, and it is equally clear that they want to expand their U.S. operations. The company has been trying to find a way to reach a deal with Buffalo-based M&T Bank (NYSE: MTB), in part by acquiring Allied Irish Bank's (NYSE: AIB) stake in MTB. That said, MTB does not appear to want to sell out to Santander beyond AIB's stake. So we have an impasse there.

But what about BB&T? Although BB&T has large operations in Georgia (one of the sinkholes in the credit crisis) and a large commercial real estate portfolio, BBT has thus far done pretty well throughout the crisis and the bank has a well-earned reputation for both sound and conservative management. BBT management is also on record saying that they will need to make transformational M&A maneuvers in the coming years, and I do not believe the Colonial deal was what they meant.

BBT would give Santander access to a faster-growing area of the country (faster than the Mid-Atlantic), a large deposit base, and a profitable insurance business. The Southeast is also an area seeing significant Hispanic immigration and that might be synergistic for Santander given their operations in Mexico and Latin America.

It also does not hurt that BBT is undervalued right now and could be a cheaper "get" than MTB.

Of course, Santander has ample options - including simply standing pat and growing organically. If Santander wants to grow in the Southeast, Suntrust (NYSE: STI) is an option as well, and so to Regions Financial (NYSE: RF). And who knows? Maybe they go to Texas for Texas Capital Bancshares (Nasdaq: TCBI), or the western US for Zions (Nasdaq: ZION) or the upper midwest for TCF (NYSE: TCB). So on and so on - which is why I do not like speculating on these things; you can do it all day and get nowhere.

Still, I find the idea of a Santander-BBT link-up to be intriguing. I am a fan of both banks and have thought about purchasing Santander relatively recently. If I was not already over-exposed to finance, I probably would have by now. Nevertheless, time will tell ...

Disclosure - I own shares of BBT