In December 2017, bank stock activity largely traded around progression and a final push by the GOP for tax-reform and the Federal Open Market Committee (“FOMC”) meeting in which the federal funds rate target was raised for the third time in 2017.
Bank stocks traded up early in the month as the U.S. Senate passed its version of the tax bill with a 51-49 vote giving the broad market expectations of full reform to pass within the month. Anticipation of a likely rate increase announcement by the Federal Reserve and news of Republicans coming closer to a tax reform agreement that would reconcile the bills passed by the House and Senate pushed bank stocks up slightly mid-month. The Federal Reserve announced an increase to the federal funds target rate range of 1.25% to 1.50% and expectations of three additional rate hikes in 2018 as current Federal Reserve chair, Janet Yellen said the labor market looks strong but continued to see soft readings on inflation. Republican members of the House and Senate reached a deal on the tax bill that pegged the corporate tax rate at 21%, and the Federal Communications Commission approved a major overhaul to its net neutrality regulations in a controversial 3-2 vote. Governors at various Federal Reserve banks issued contradicting assessments of the U.S. Economy. San Francisco’s Fed President, John Williams, who will be a voting member of the FOMC in 2018 believes that the economy has “very good momentum” and suggested that additional rate hikes in 2018 and 2019 would be reasonable, while Minneapolis Fed President Neel Kashkari, voted against the rate hikes partly because of the flattening of the yield curve and his concerns that inflation has remained too low. On December 20th the final tax bill passed the U.S. House and Senate to head to President Donald Trump’s desk where it was signed two days later.
In banking legislation, Republican U.S. senators teamed up with moderate Democrats to advance a package bill that would reform portions of the post crisis Dodd-Frank framework, doing away with the $50 billion threshold for enhanced prudential standards. The bill passed the Senate Banking Committee in a 16-7 vote and will go to the Senate floor for chamber wide consideration.
In economic news, data from the U.S. Department of Labor reported that nonfarm payrolls increased by 228,000 in November, beating the consensus estimate of an increase of 190,000. The unemployment rate, meanwhile, remained 4.1%, in line with expectations. Existing-home sales increased in November at the strongest pace since December 2006, rising 5.6% to a seasonally adjusted annual rate of 5.81 million. Sales were 3.8% higher than a year earlier according to the National Association of Realtors, and the median existing-home price was up 5.8% year over year. Average Hourly Earnings increased slightly in the month of November by 5 cent to $26.55, and the year-over-year pace of growth grew to 2.6%.
Bank M&A pricing was up significantly in 2017 compared to 2016 on a greater number of transactions (see chart below).
The SNL Bank Index increased 2.0% in December which was double the return of the S&P 500 which gained 1.0% during the month. While banks below $500 million increased the most at 6.4%, banks between $500 million and $1 billion posted an increase of 2.2%, and banks between $1 billion and $5 billion performed the worst losing 3.8% during the month.
Over the three month period ending December 2017, the SNL Bank Index gained 7.8% while the S&P 500 increased only 6.1%. Over the prior twelve months, the SNL Bank Index was slightly outperformed by the overall market, as it increased 16.0% while the S&P 500 increased 19.4%.
REGIONAL PRICING HIGHLIGHTS
All regions reported lower price to tangible book multiples with the exception of the Southwest which gained 0.8% in the month to maintain its leading position reporting the highest price to tangible book at 206.2%. The Southeast region reported the second highest pricing by region of 193.5% after a decrease of 2.9% in the month. The Midwest reported a median price to tangible book of 191.5% down slightly in the month from 191.7% followed by the West at 190.5%. The Northeast median price to tangible book decreased 0.8% in the month to 190.0% and the Mid-Atlantic region was the lowest priced region with a median at 175.1% and saw the largest decrease in the month of 3.7%.
Strong pricing among the public banks in the Southwest region was supported by strong earnings (ROAA 1.02%), Net Interest Margin (3.53%) and improved in the month to the best asset quality region of NPAs/Assets of 0.57%. The Southeast pricing decreased in the month as the Net Interest Margin decreased to the third strongest region at 3.59% and the asset quality decreased in the month (NPAs/Assets of 0.83%). Loan demand remained the strongest in the Northeast region (Loan/Deposits of 95.6%) while the Net Interest Margin remained the weakest at 3.25% and ROAA remained seconded lowest at 0.92%. The West continued to lead on earnings (ROAA of 1.08%), net interest margin (3.75%), and reported the second strongest asset quality (NPAs/Assets of 0.63%). The Mid-Atlantic remained the lowest priced region on the weakest earnings (ROAA 0.88%) and the second weakest Net Interest Margin behind the Northeast (3.43%) but reported the second strongest loan demand with Loans/Deposits of 94.2%.
On a median price to earnings basis, the Southwest region was the only region to increase in December keeping the region to the second highest price to earnings basis (19.9). Pricing multiples in general for all the regions decreased in the month for a price to LTM earnings between 17.7x and 20.2x. The Southeast region remained the highest price to LTM earnings at 2.02x but decreased 4.1% in the month of December. The Midwest reported the largest decrease in pricing in the month on a price to earnings basis (-4.9%) to the lowest priced region at 17.7x on a slight decline to loan demand (Loans/Deposits 92.5%).
PRICING BY SIZE
Size matters in bank stock prices. Financial institutions with total assets greater than $1 billion consistently report pricing approximately 50% higher median price to tangible book pricing than their peers with total assets less than $1 billion. In the month of December that differential was cut to approximately 40% higher median price to tangible book pricing for the peers with assets greater than $1 billion. During December, the pricing for the three groups with total assets over $1 billion decreased their median tangible book pricing by 3.7% averaging 207.1%. The largest decrease came from the group with assets between $1 billion and $5 billion (-6.3%), but remained the highest priced asset class size at a median price to tangible book of 231.3% while the two smallest group medians increased 2.4% to average 149% price on tangible book. On a price to LTM earnings basis, the smallest banks (<$500 million) reported the highest price to earnings multiple (20.9x) but reported much lower earnings (ROAA 0.66%). The three groups with assets over $1 billion reported lower pricing at an average median price to earnings of 18.7x but reported median ROAAs between 0.95% and 1.10%.
Financial institutions under $1 billion reported much lower LTM ROAA (average of medians 0.69%) and lower asset quality (0.97% average of median NPAs/Assets) than institutions with assets over $1 billion (average median LTM ROAA 1.03% and NPAs/Assets 0.65%).
Mergers & Acquisitions by Region
Bank consolidation ended the year at a slightly higher pace with 247 transactions announced in 2017 compared to 226 in 2016. However, median year-to-date pricing in 2017 was substantially higher at a 16.8% increase on tangible book (median 1.62x), 15.2% increase on price to 8% tangible book (1.75x), 9.3% increase on LTM earnings (21.3x), and 22.8% increase on deposits (20.5%) compared to transactions announced in 2016. Higher prices in 2017 for merger and acquisitions are the direct result of higher public bank stock prices.
The Southwest region reported the highest price to tangible book multiple at 1.94x (15 deals with terms) on deals with the highest median earnings (LTM ROAA 0.87%) and best asset quality (NPAs/Assets 0.55%). The West followed with a median price to tangible book multiple at 1.86x (26 deals with terms) followed by the South and Midwest at 1.65x while the South region also reported the most consolidation with a total of 66 deals announced (46 announced with terms). The lowest priced region, the East – New England, reported a tangible book pricing multiple of 1.33x (25 deals with terms) likely due to having the lowest LTM ROAA performance of the targets at 0.31% and the highest NPAs/Assets at 1.14%.
More information regarding nationwide M&A activity can be found here.