Basket of Large Cap US Financials - No Brainer Buy Today?

[Viking]

Is buying a basket of the too big to fail US financials not a no-brainer trade today? I am thinking equal weight positions in JPM, BAC, WFC, C, MS and GS. They look like they will be big winners from the current panic. We know deposits are fleeing from the regional banks to these institutions. Credit Suisse is close to being put out of its misery. The winners? Yup, the big boys. 
 

Will it be a rocky couple of months (maybe even a year)? Yup. But as we emerge on the other side of this bank panic they will be even more dominant. There are more shoes to fall. Commercial real estate looks like the next shoe to drop. The panic hitting regional banks will just get worse as more ‘surprises’ on their books get revealed.

• Interest rate risk (rising rates) + market risk (current bank run) + credit risk (shit like commercial real estate) = category 5 hurricane for regional banks

The big banks were at the epicentre of the banking crisis in 2008. They were the cause of it. It took the big banks 7 years to emerge from the last crisis. This time around, the banking crisis is different. The big banks are in much, much better shape this time. So they will emerge from this crisis faster, stronger and larger. Just depends on how bad things get. 
 

There likely will be some short term pain… perhaps a year or so of lower earnings. But looking out a couple of years, there is a lot to like. 

 

What are the risks? 
1.) new regulations reducing profits (or forced capital raises diluting existing shareholders)

2.) government deciding big banks are the new oil: evil incarnate

 

How to play the opportunity as an investor? 
1.) start with a core position (basket - equal $ weights for each company you like)

- big enough total position you are happy if stocks run away from you higher

- small enough you can add to your position on weakness 

2.) perhaps add 20%- 30% to position on declines (perhaps for every 5% decline - on average - of the stocks in your basket).

Another way would be to buy a large cap ETF but you would not have any control over the weightings.

Edited March 16, 2023 by Viking

[dipod]

I've been averaging into 2025 LEAPS on most of these names that are a little OOTM. I believe with patience, these would do well. But it could be a rocky road in the interim. If inflation cools down significantly for any reason in the next 1-2 years, these names will do especially well.

[Red Lion]

I just put on something very similar today with C, JPM, WFC, BAC, and PNC with a 5% portfolio allocation. I’m considering adding more names to the basket (1% positions each). 
 

This is partly because I’m not intimately familiar with the sector and the highest quality names like Jpm seem to trade at a higher valuation. Also partly because I see banking as inherently black box, so I would prefer to own a basket than a concentrated position for that reason as well. 
 

I think regulatory risk is always there with the banks. The powers that be seen to be signaling they will bailout uninsured depositors but not bank investors. 
 

Competition from an alternative business model could be a risk but I don’t think a huge one. Eg alternative asset managers, private credit, and insurance. 
 

Continued yield curve inversion could certainly pressure NIM if it persists for the long term. 

[SHDL]

I'm generally on board with this. I do have some BAC. Some questions:

 

1. GS, MS: Why do you think they will benefit from these events?

 

2. WFC: How do you feel about the asset cap?

[Dinar]

@Viking, why do you think BAC benefits?  Sure, it will probably get more deposits, but I believe that the bank lost an incredible amount of money on long term treasuries, mortgage backed securities and regular mortgages.  It's tangible equity on a mark to market basis divided by total assets is very low.  I think that its net income margin will probably come under pressure due to consumers wising up to higher rates, and going after CDs & money markets.  I also think that the commercial loan book is about to come under pressure as the economy weakens, and have you looked at their exposure to office loans?

Same questions can be applied to Citibank and Wells Fargo.

GS & MS are completely different animals, but have you looked at their balance sheet, particularly liabilities?  What happens if credit spreads on their paper widen out 200 basis points, which is probably reasonable given CS?

[Red Lion]

3 minutes ago, Dinar said:

@Viking, why do you think BAC benefits?  Sure, it will probably get more deposits, but I believe that the bank lost an incredible amount of money on long term treasuries, mortgage backed securities and regular mortgages.  It's tangible equity on a mark to market basis divided by total assets is very low.  I think that its net income margin will probably come under pressure due to consumers wising up to higher rates, and going after CDs & money markets.  I also think that the commercial loan book is about to come under pressure as the economy weakens, and have you looked at their exposure to office loans?

Same questions can be applied to Citibank and Wells Fargo.

GS & MS are completely different animals, but have you looked at their balance sheet, particularly liabilities?  What happens if credit spreads on their paper widen out 200 basis points, which is probably reasonable given CS?

Haven’t a lot of those mark to market losses already reversed with the huge move in treasuries? 

[Castanza]

10 minutes ago, RedLion said:

Haven’t a lot of those mark to market losses already reversed with the huge move in treasuries? 

Yup, my question as well. If those HTM securities moved down in value as bond rates went up and forced some to sell then MTM wouldn’t we also see the reverse of rates come down? 
 

I guess the question is how does the accounting around this work? 

[lnofeisone]

2 minutes ago, SHDL said:

I'm generally on board with this. I do have some BAC. Some questions:

 

1. GS, MS: Why do you think they will benefit from these events?

 

2. WFC: How do you feel about the asset cap?

I'm following this general structure with some IAT in the mix. My "large" bank basket favors WFC because of the asset cap (though I am thinking more about the mixed shelf offering they filed). Here is my thinking:

 

1) I suspect BAC/JPM/WFC will all experience a deposit influx. WFC's influx won't be as big because they offer terrible rates and, in any case, don't want too much in deposits.

2) Asset cap forced WFC to be nimbler about their deposits, and they have relatively low deposit costs.

3) Probably because of the asset cap, they've been shrinking their assets and now have room to pick up new assets (lend) at higher rates.

4) Asset cap removal is a catalyst. They have some space to pick up assets now, but removing the asset cap will let them increase that significantly.

 

If only WFC could keep its computer systems working well and modernize its IT to join the 21st century. It's especially important not to have glitches when depositors are already jumpy.

[SHDL]

23 minutes ago, lnofeisone said:

I'm following this general structure with some IAT in the mix. My "large" bank basket favors WFC because of the asset cap (though I am thinking more about the mixed shelf offering they filed). Here is my thinking:

 

1) I suspect BAC/JPM/WFC will all experience a deposit influx. WFC's influx won't be as big because they offer terrible rates and, in any case, don't want too much in deposits.

2) Asset cap forced WFC to be nimbler about their deposits, and they have relatively low deposit costs.

3) Probably because of the asset cap, they've been shrinking their assets and now have room to pick up new assets (lend) at higher rates.

4) Asset cap removal is a catalyst. They have some space to pick up assets now, but removing the asset cap will let them increase that significantly.

 

If only WFC could keep its computer systems working well and modernize its IT to join the 21st century. It's especially important not to have glitches when depositors are already jumpy.

 

Those are good points. Do you have a sense of when the cap will be lifted? I get the impression that it's been dragging on forever with no end in sight.

[Viking]

36 minutes ago, Dinar said:

@Viking, why do you think BAC benefits?  Sure, it will probably get more deposits, but I believe that the bank lost an incredible amount of money on long term treasuries, mortgage backed securities and regular mortgages.  It's tangible equity on a mark to market basis divided by total assets is very low.  I think that its net income margin will probably come under pressure due to consumers wising up to higher rates, and going after CDs & money markets.  I also think that the commercial loan book is about to come under pressure as the economy weakens, and have you looked at their exposure to office loans?

Same questions can be applied to Citibank and Wells Fargo.

GS & MS are completely different animals, but have you looked at their balance sheet, particularly liabilities?  What happens if credit spreads on their paper widen out 200 basis points, which is probably reasonable given CS?

@Dinar those are all good questions and i am not an accountant or an expert on banking. So the short answer is i am not really sure how exactly it all plays out. That is why i am suggesting a basket approach. And as we learn more, tweaks can be made. Today i sold some BAC and initiated a position in JPM (even though i think JPM is more expensive). So i will manage my weighting based on who i like the best. But i also understand there is much i don’t know. So i also don’t want to go all in on one or two names. My plan is to also go wide with exposure; so include all 4 big banks, MS and GS and probably also AMEX. I just think these are exceptionally strong, well run franchises.
 

This is not a super high conviction trade for me. I like the current risk/reward set up. But it is a very fluid situation. I will be flexible as more information becomes available.

 

In terms of deposits at the big banks, i think they will continue to be quite sticky. Especially if the big banks are perceived to be safe havens (which appears to be happening). In a banking crisis people are not thinking about the interest rate on their checking account. They are thinking about if the safety of the money in their checking account.
 

In terms of interest rates, we may well have seen peak rates for this cycle. Interest rates across the curve are much lower today. So led-to-maturity losses are already much lower for all banks. We will learn much more on this front when banks report Q1 results in another month or so. 
 

In terms of commercial loans i think BAC is pretty well positioned compared to peers (i might be wrong).

[james22]

I'll let Buffett take advantage for me.

[Gregmal]

Been leaning towards this over the last week as well. Have a few percent split with WFC and TFC but leaps on a basket or one of the ETFs probably works too. SVB was kind of unique and now it seems everyone thinks it’s cool and edgy to whip out their excel sheets and calculate HTM losses like it’s some grand reveal, but this stuff is and has been common knowledge for a while and love it or not, it’s just the way banks are forced to do things after the last decade. If it’s truly held to maturity then all the hooting and hollering about mark to market is pretty dumb and immaterial…not that I agree with it on a fundamental basis, but a year ago and 5 years ago you hd HTM securities just as you do now. Get over it.

[lnofeisone]

3 minutes ago, SHDL said:

 

Those are good points. Do you have a sense of when the cap will be lifted? I get the impression that it's been dragging on forever with no end in sight.

I think we are in year 7. No end in sight is probably the right frame of looking at it. j/k. WFC thinks it will go through 2023. That feels right. They've been settling and getting their processes right. This is why I put asset cap removal as 4th bullet. I doubt it will happen tomorrow but it is something to look forward to. 

[CorpRaider]

I'm hoping we'll get 'em below TBV at least the ones I want.  

Edited March 16, 2023 by CorpRaider

[Dinar]

1 hour ago, RedLion said:

Haven’t a lot of those mark to market losses already reversed with the huge move in treasuries? 

Yes, some.  However, the losses on mortgages (actual, not mortgage backed securities) have not been recognized, and those are still carried at par.   Also, I think the commercial loan book is very vulnerable to an economic slowdown and declines in the value of office buildings.

 

If I were to back a horse, I would go with JPM.  Dimon is worth his weight in platinum.  Demchak at PNC is supposedly quite good.  I would focus either on franchise - do they own a wealth management business, or insurance brokerage, or something like that, or whether you have a guy like Dimon in charge.  Or may be one of those ethnic banks that lend to Chinese/Korean immigrants.  

 

 

[WayWardCloud]

Maybe I'm being too greedy but I just don't think large banks as a whole have fallen all that much to justify getting excited. In my mind it's a good time to enter if you wanted to add them anyway but if that little dip is all there is to the crisis I won't mind passing on it and waiting for something else to swing. If you have a strong conviction on a specific name that's down much more then obviously that's a different story but I'm not knowledgeable enough to stock pick here.

 

We had similar prices last October and last June without any of the fuss.

 

 

Edited March 16, 2023 by WayWardCloud

[Spooky]

I would be careful with C - they have a similar deposit base to SVB with mainly corporate / uninsured depositors.

[Spekulatius]

6 hours ago, WayWardCloud said:

Maybe I'm being too greedy but I just don't think large banks as a whole have fallen all that much to justify getting excited. In my mind it's a good time to enter if you wanted to add them anyway but if that little dip is all there is to the crisis I won't mind passing on it and waiting for something else to swing. If you have a strong conviction on a specific name that's down much more then obviously that's a different story but I'm not knowledgeable enough to stock pick here.

 

We had similar prices last October and last June without any of the fuss.

 

 

Looks at what's in XLF - a huge chunk of BRK (~14%) and JPM (~10%) which are up. A lot of constituents are financial service cos as well that are up.

The rest has been pummeled very hard - take a look at IAT or KRE.

[DooDiligence]

I just learned a little bit more about banking and specifically regarding Data Quality Management audits. This seems like an important aspect to watch in addition to depositor profiles. The best quality deposits won't save you if you can't reliably keep track of it all. Not trying to defend Citi but they're apparently not the only institution with shortcomings and deficiencies in this area.

 

Citi must submit a full resolution plan by July 2023 (after the horse may have bolted from the barn). It's good to know that this is an ongoing and continuous effort with strong finger waving from guys like Chopra. What happens in the event of a deficiency? Fines?

 

https://www.reuters.com/business/finance/bank-regulators-identify-shortcoming-citigroup-resolution-plan-2022-11-23/

 

https://bankregblog.substack.com/p/citigroups-resolution-planning-shortcomings

 

I have to go to class and haven't read the following yet but will when I get back home.

 

https://bankregblog.substack.com/p/the-aoci-opt-out-revisiting-how-the

 

Speaking in defense of trackers, it's true that most of my DD comes after a purchase.

Edited March 16, 2023 by DooDiligence

[mattee2264]

Even with an asset influx I think all the big banks will have to offer better deposit rates to keep people on board which will squeeze margins.

 

There is also some exposure to credit risk as we go into recession. Silicon Valley Bank took the biscuit in making crappy loans to start up tech companies but I am sure most major banks have some exposure to businesses that are only really viable in a zero interest rate world. Housing market also looks likely to take a tumble. 

 

And all the banks are sitting on unrealised losses on bonds so equity is somewhat overstated on a GAAP basis. 

 

I'd say Bank of America looks the best bet. 1.3x tangible book value looks pretty cheap even allowing for the above. Although probably the strongest of the regional banks is where you are more likely to find the bargains given the market has tarred them all with the same brush. 

 

 

[CorpRaider]

Wells will take your money in exchange for Rep. Waters and Senator Warren to kick you, best they can do.

Edited March 16, 2023 by CorpRaider

[Gregmal]

If everybody is migrating to the TBTF banks, why would they have to increase what they’re paying? Out of all my accounts, Chase is easily the worst in terms of a savings rate.

[Xerxes]

How about Canadian banks with US exposure instead. TD, RBC (that has presence in California), and less so BMO

[Xerxes]

14 hours ago, Castanza said:

Yup, my question as well. If those HTM securities moved down in value as bond rates went up and forced some to sell then MTM wouldn’t we also see the reverse of rates come down? 
 

I guess the question is how does the accounting around this work? 

I think by definition HTM do not move in value (either up or down) with interest rate movement. They are amortized over their duration. 
 

Their so called movement in value that is being talked about are based on “look through” marks. I.e. should they be M2M, equity goes up/down this much 
 

It is the AFS that will get the snap back effect accounting wise.
 

perhaps someone can comment on my comment  

[John Hjorth]

29 minutes ago, Xerxes said:

I think by definition HTM do not move in value (either up or down) with interest rate movement. They are amortized over their duration. 
 

Their so called movement in value that is being talked about are based on “look through” marks. I.e. should they be M2M, equity goes up/down this much 
 

It is the AFS that will get the snap back effect accounting wise.
 

perhaps someone can comment on my comment  

 

What @Xerxes posted here is correct.

 

At the time of acquisition of the HTM security, a IRR pre tax is implied and calculated by basis of the price paid and the stipulated future cash flow of the security. This calculated pre tax IRR is then apllied while calculating the NPV of the future remaining cash flow of the security at any future reporting point in time untill the NPV of future cash flow of the security reaches zero at time of redemption of the security.