Ted Peters calls himself a "pacifist investor," and his approach is much different than activists like Basswood Capital Management and PL Capital, even though his motivations are similar.
Like the activists, he expects mergers and acquisitions to accelerate in banking over the next few years, and just after retiring as chairman and chief executive of Bryn Mawr Bank Corp. at the end of 2014, he organized a hedge fund to capitalize on that trend.
Bluestone Financial Institutions Fund has about $90 million in assets under management, and through November its rate of return was nearly 18%, according to Peters. It invests exclusively in publicly traded small and midcap banks and owns about 15 stocks in all, including a handful that it views as takeout targets.
But Peters isn't agitating for a sale like the activists in those particular stocks tend to do. "I would probably call us a pacifist investor in the sense that we are very friendly with management," says Peters, Bluestone's president and CEO. "Almost every bank we buy, we know the management, we visit them, we call them, we talk to them."
The fund's operating strategy is to establish a good rapport with bank executives and get to understand their vision and thought process. Peters says open hostility would run counter to that goal. "We never write letters, we never give suggestions, we just listen," he says. "We're good listeners."
About 10 of Bluestone's stocks are what Peters calls "growth stories." He cites Signature Bank, Silicon Valley Bank, Bank of the Ozarks and Legacy Bank in Texas as examples.
Bluestone favors banks with a strong deposit base and multiple branches in growing markets. It looks for management teams that are highly competent and aggressive with a record of steady growth across years — not just by acquisition, but also organically. Some of them spur growth by poaching loan teams from other banks.
The rest of Bluestone's banks are underperformers, generally with less than 1% return on assets. "Very often they're a thrift that converted, they're overcapitalized, they're not deploying their capital very well," Peters says.
In some cases, the CEO is nearing or already past retirement age and the bank lacks a clear successor. In other cases, the management is considered weak. "The management is maybe old personnel, savings-and-loan management, which is not overly progressive."
However they may differ, one trait that all of these banks — which are perceived as eventual sellers — have in common is the presence of activist investors. "Banks that we expect to get taken over, almost every single one, have activists in them," Peters says. "That's one reason we invest in the bank."
Last year three of Bluestone's banks agreed to sell themselves, but not because of any urging from his hedge fund. Even with the underperforming investments, Peters' approach is a passive one — more listening than talking.
"We do know a number of the activists, and they do not bother us at all," he says. "When you talk to the activists, they feel they're doing a service to shareholders and to the economy of the country because they're exposing these underperforming banks where there is maybe some excessive compensation for the principals."
One of the investments where Bluestone coexists with activists is Asheville Savings Bank. "There's a prime example: we talk to management there, and we're not going to get involved at all with the activists," Peters says. "But on the other hand, we do think that bank is a takeout target."
Peters expects the healthy pace of M&A seen in 2015 to continue this year, with his estimate being for roughly 300 deals overall. Besides "aggressive acquirers" like BB&T and KeyCorp, smaller players are actively looking to buy, he says. "There are a lot of banks out there between $3 billion and $5 billion that need to continue to grow critical mass and they're looking at banks between $500 million and $1 billion or so."
Between rising interest rates and accelerated M&A activity, Peters sees a "perfect storm" brewing for community bank investors — both the pacifist and activist types. "We think that the community bank sector is going to outperform the general bank sector, and certainly the general market over the next five to seven years," he says. "That's really the thesis behind our fund."