Value Investing Insight: Banking Dilemmas and Discounts
Mike Nicolas and Jason Long, Equity Portfolio Managers at Harris Associates, adviser to the Oakmark Funds, weigh in on recent bank failures, overall stability of the banking sector, regulatory issues, and deep discounts in European and US financial stocks in this podcast recorded May 8, 2023.
- Banking is a business with large economies of scale. Therefore, we should expect further consolidation as some smaller banks often struggle to meet the service and product offerings of the bigger ones.
- There are important regulatory differences between US and European banking systems. The US has a bit more of a multi-tier regulatory system with smaller US regional banks benefiting from more regulatory and accounting flexibility compared to the larger US banks. In Europe, they treat all banks equally. Small and large sized banks are competing on a more level playing field in Europe.
- The recent share price volatility impacting European banks appears to be overdone. It is providing more of an opportunity to pick up some overly discounted shares of a select group of larger banking institutions.
- Unlike the last financial crisis in 2008, where the biggest banks were clearly a major part of the problem, I think this time around they're attempting to be part of the solution as they were during Covid.
- First quarter (Q1) earnings in 2023 for US banks appear to show that the totality of issues plaguing Silicon Valley Bank and a few other troubled financial institutions were more of an exception than the rule.
- In Europe, deposit franchises performed relatively well during Q1 earnings season. Many have been beneficiaries of that flight to quality.
- Interest rate rises are typically a positive tailwind to bank profitability. This is particularly the case for banks with strong and low-cost deposit franchises.
- Investors have been quick to penalize the banks for fears of increasing regulation. We think increased regulation is highly likely as well in the US. But higher capital liquidity requirements aren't unequivocally bad for banks. It should make them safer.
- The European banking sector is trading at a relative discount that is near an all-time high. Also, strong excess capital position for European banks, coupled with the weak share price movement, has resulted in an attractive dividend yield for some European banks.
- The market likes to paint all European banks with the same brush. We think this is wrong and shortsighted. And it does provide opportunity for the active investor.
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Investing in foreign securities presents risks that in some ways may be greater than in U.S. investments. Those risks include: currency fluctuation; different regulation, accounting standards, trading practices and levels of available information; generally higher transaction costs; and political risks.
Investing in value stocks presents the risk that value stocks may fall out of favor with investors and underperform growth stocks during given periods.
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