For banks, 2005 may go down as the year of the shrinking margin. The industry struggled against tough competition for loans and deposits, an inverted yield curve, and eight quarter-point increases to the federal funds rate.
The effect on community bank stocks was predictable. The America’s Community Bankers Nasdaq index, which rose 18% in 2004, rose less than 1% last year.
Economists expect the central bank to cap off its rate tightening with one more 25-basis-point increase this month, and if they are right the industry could be in for a somewhat less bumpy ride this year.
“Bank stocks tend to do well once the Federal Reserve stops tightening,” said Gary B. Townsend, an analyst at Friedman, Billings, Ramsey & Co. in Arlington, Va.
Other analysts agree and said the industry’s stock performance should improve across the board. Banks they have identified as particularly good buys in 2006 include Renasant Corp. in Tupelo, Miss., Sterling Bancshares Inc. in Houston, UCBH Holdings Inc. in San Francisco, and First Mariner Bancorp Inc. in Baltimore.
Barry McCarver of Stephens Inc. in Little Rock said simpler is better when it comes to picking bank stocks. The biggest thing his top pick, the $2.4 billion-asset Renasant, has going for it is a recent expansion into Memphis and Huntsville, Ala.
Both are growing much faster than Renasant’s core markets, said Mr. McCarver, who predicts its earnings per share will rise 10% this year, to $2.53.
Renasant, he said, “is leveraging the position of its business and its existing markets” by entering some faster-growing ones. “Its management team is conservative. … Other than shooting itself in the foot, there is not a lot that can go wrong.”
Renasant posted earnings per share of $2.31 for 2005, up 8%. Net income rose 31.3%, to $24.2 million. Mr. McCarver said the stock, which was trading at $32.96 midday Tuesday, should hit $40 this year.
Brett Rabatin at First Horizon National Corp.’s FTN Midwest Securities Corp. in Nashville said he expects a strong year from UCBH. But his top 2006 pick the $3.7 billion-asset Sterling.
Sterling was one of Mr. Rabatin’s top picks last year, and it did not disappoint, posting a 45% increase in net income, to $36.2 million. Sterling’s stock price rose a solid — if less spectacular — 10% in 2005, to $15.44, and Mr. Rabatin said it will reach $18 in 2006. It closed at $16.62 Tuesday.
Mr. Rabatin said he likes Sterling because it has an “all-weather balance sheet” that is heavy in low-cost core deposits and variable-rate loans. The combination, he said, helps keep margin compression to a minimum. Indeed, Sterling’s net interest margin actually expanded by 20 basis points in 2005, to 4.63%.
Mr. Rabatin said Sterling has done a good job of rebuilding its earnings stream since selling its mortgage company in 2003, and he expects that trend to continue in 2006. He is forecasting a 33% increase in earnings per share for the year, to $1.05.
He singled out the $7.3 billion-asset UCBH — calling it the “best idea in the Asian banking space” in a Jan. 13 research report — due to its strong loan pipeline. In his report, he said UCBH would improve its balance-sheet mix by replacing securities with higher-yielding loans. The result, he predicted, will be a 10-basis-point increase in the net interest margin and a 18% increase in earnings per share, to $1.24.
Shares of UCBH fell 22% in 2005 as the company struggled to correct flaws in its financial reporting systems and engaged in a protracted but apparently unsuccessful bid to acquire Great Eastern Bank of New York City.
“I’m a long-term bull on UCBH,” Mr. Rabatin said. “It had a tough 2005, but I expect it to be strong in 2006.” UCBH was trading at $17.61 late Tuesday. Mr. Rabatin said he expects it to reach $20 or $21 by yearend.
FTN Midwest’s 2005 review was mixed. Among its top picks was the $1.5 billion-asset Virginia Commerce Bank in Arlington, which reported a 27% increase in earnings per share, to $1.40. That increase had a predictably positive effect on the stock, which rose 28% on a split-adjusted basis.
But FTN was wide of the mark with the $2.5 billion-asset Main Street Banks Inc. of Atlanta. Main Street reported a 12% decrease in earnings per share, to $1.35. The stock fell 21.5% on the year.
FTN’s top 2006 picks include the $1.4 billion-asset First Mariner, one of the top 2005 picks of BankAtlantic Bancorp’s Ryan Beck & Co.
First Mariner had solid earnings growth last year, with net income through the first nine months up 25% over the corresponding period in 2004. But its stock price hovered between $17 and $18 for much of the year.
FTN expects the Baltimore company’s bottom-line growth to continue in 2006. It predicted an 18% increase in earnings per share, to $1.33, and said its share price will go as high as $21.
Mr. Townsend at Friedman said the end of rising rates would help the entire industry, but he said large-cap banks would benefit more than community banks. Big banks are trading at historically low multiples; just the opposite is true for small banks, he said.
“The real value is in the large-cap group,” Mr. Townsend said. “It has underperformed the past two years, but” big banks “are doing very well and they are trading at a discount. We see it as a full-fledged opportunity.”
