Stifel Financial (SF) surprised Wall Street last week with its $575 million agreement to buy KBW (KBW).

Stifel has been on an upswing. Last week it posted third-quarter income of $37.7 million, 69% higher than a year earlier. New hires and preparations for an anticipated wave of bank mergers have fueled its investment banking arm, which is having its best bank mergers and acquisitions results since 2007.

KBW has struggled the last two years and reduced staff. In 2011 it lost $31.7 million, and on Nov. 5 it announced that it had lost $5.2 million for the third quarter

In discussing the deal with American Banker, Stifel Chief Executive Ronald Kruszewski and KBW CEO Thomas Michaud said the strategic rationale behind it was a simple: St. Louis-based Stifel wants a bigger slice of specialized market for advising bank M&A, and KBW, of New York, could benefit from the stability, new customers and broader services its new parent would bring to the table.

The following is an edited transcript of that conversation.

Why is this deal happening now?
: It is our goal to build a premier middle-market investment bank, and KBW is the premier specialist firm in the country and the world. It's a great fit, and ultimately what better time than the present to do this deal.

Tom, when I asked you this spring about the future of the firm, you said your focus was all about making it the most valuable it can be.
: That hasn't changed and, frankly, that is what this merger is all about. We believe KBW is more valuable being a partner to Stifel. …This merger presents us with more opportunities to be helpful to our clients. As this industry evolves we think that scale matters, and we like the products that Stifel has. In particular we think their private client offerings are excellent, and they also have a very strong fixed-income group.

Does this transaction say anything about state of bank M&A, or where we are in the cycle?
: No, not at all. …We just felt that this was the right merger to do because – and I'll speak for KBW - we felt we were in a better position with the scale of a combined company.

What is going to be happening with the financial advisory practices of the two companies?
: We are going to combine [them]. We are going to do our financial services industry channel, if you will, under the KBW brand.

MICHAUD: Together we are both more complete. Stifel has just done an excellent job of building a broad-based platform, and with this partnership they want to be the best middle-market investment bank in the industry.

Was this a shopped process? Were you out there talking about merging with anybody else?
: I can't answer that question because of the regulatory rules.

Tom, can you talk about you feel personally about this deal? This transaction caught a lot of people by surprise. The firm has had difficulties, but it seemed like you were making progress going it alone.
: We think this is the right deal for our shareholders, for our clients and our employees. This is in my opinion the trifecta. We're trying to build a great company over the long haul, and we think we have moved ourselves forward many years by joining Stifel.

The KBW brand is surviving.
: Absolutely. We recognize the strength of the brand, and we intend to not only maintain it but to build upon it.

What is your forecast for bank M&A for the rest of this year and into the next?
: I think it is building. Most of the deals are small, but I think M&A is definitely building at a gradual pace. However, I don't think it's the big tsunami that is often talked about. The industry needs to consolidate, and with the theme of interest rates being as low as they are for a longer period of time I think that that is a pretty good environment for more bank consolidation.

KRUSZEWSKI: We're investing near the trough versus the peak, and I believe that the cycle will turn. In any event, it is a marathon, not a sprint, and I do think the M&A market is going to heat up. All of these factors bring Stifel closer to being the premier middle-market investment bank in the country.

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