Quick market note: Yes, the market has been choppy as most prognosticators have been attributing recent weakness to multitude of items (trade/geopolitical saber-rattling, Fed policy error & corresponding flattening in yield curve, normal test/reset/pause during expansionary cycle, etc…). I’m not going to debate these items or assign points for which argument is the most convincing. What I do see, specific to banks, is there has been a resetting of expectations as bank investors begin to consider the implications of a flatter/flat/inverted yield curve and a maturing/mature economic cycle. Many banks have struggled during the second half of 2018: loan pricing remains very competitive and deposit betas have increased, resulting in NIM pressure/compression. The bank franchises I’ve highlighted have shared a common thread: each company was an attractive deposit franchise trading at an attractive market valuation (P/E, P/TBV, etc…). I’m of the opinion that vetting deposit franchises and analyzing management execution and loan growth/spreads should strip the wheat from the chaff to position one’s capital investments amongst truly attractive bank franchises. With this in mind, the recent selloff has moved some previously fully- or over-valued bank franchises back to “investable” levels.
First up: Mercantile Bank Corporation (MBWM) of Grand Rapids, MI.
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Quick note from an article on SNL today that confirms my priors (just being honest…), and I thought it to be worth sharing as low beta, core deposit funding is a key component I look for in the majority of my community bank investments. From SNL (emphasis mine):
“Matt Kennedy, vice president at investment bank Banks Street Partners, said in an interview that a strong deposit base has move up acquirer wish lists of late. He said lower funding costs attract more potential buyers and thus drives deal prices higher. ‘The conversations when we talk to these acquirers have centered and focused on deposits and the deposit base more over the past two or three quarters than they did previously,’ he said.
Buyers are also increasingly seeking targets with lower loan-to-deposit ratios, Kennedy said, as acquirers want to take that deposit base and use it as a funding source for future loan growth.”
Source: https://www.snl.com/interactivex/article.aspx?KPLT=7&id=46002260 ($)
The current valuation of BankFinancial Corp (BFIN) provides an attractive entry point to invest in a bank franchise nicely positioned in an acquisitive market geography with several balance sheet and operating characteristics that should benefit BFIN as a standalone enterprise and attract takeout offers.
Management has been busy over the past three years in right-sizing the equity position via share repurchases (3,085,168 at cost of $42,494,000) and dividends ($16.5 million) since Jan 1, 2015. As a result, we are starting to see what a ‘normalized’ return on equity looks like for BFIN. Benefitting from the lower tax rate, declining equity base, and increasing net income, ROE hit 9.4% in Q2 2018 and I don’t see any reason that management cannot continue hit a ~10% ROE over the rest of the current cycle.
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Brace yourself as I introduce Croghan Bancshares (CHBH), a boring brick-and-mortar bank franchise operating in Ohio around Toledo and Sandusky with approximately $850 million total assets.
What Croghan lacks in glitz and glamour (and market liquidity…), it more than makes up for by producing superb operating profitability and delivering shareholder returns. The bank’s profitability metrics (ROA/ROE, see “Financial Overview” section) are nothing short of spectacular.
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The current valuation of Middlefield Banc Corp (MBCN) provides an attractive entry point to invest alongside a premier management team operating a well-capitalized, conservative community bank with growth and takeout potential. Primary drivers that should benefit MBCN shareholders over the near- and longer-term:
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Author’s note: please bear with me as I begin this blog. I am certain my writing style, post format, and underlying content will evolve over time. And with that acknowledgement, it is likely a safe presumption that, upon reflection months from now, this will undoubtedly be the worst post I write. So, with that in mind, please enjoy (what is likely to be) the worst post I will contribute to the discussion of community bank investment ideas.
HMN Financial, Inc. (HMNF), the bank-holding company for Home Federal Savings Bank, operates 14 branch locations in southeast Minnesota with total assets of approximately $725 million. HMNF had a rough go during he financial crisis as the bank endured four calendar years of net losses, balance sheet declines, and a ~70% decline in its book value per share. With that mess in the rear view, I believe HMNF is poised for a solid year in 2018: its deposit base appears to be well-anchored to allow HMNF management and shareholders to benefit from higher loan yields and improved credit performance.
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