Oh, what a difference a year can make. Or more to the point, what a difference just three months can make. At Bank Director’s Acquire or Be Acquired Conference last year, bank stocks were in the proverbial dumpster having been thoroughly trashed by declining oil prices, concerns about an economic slowdown in China and the slight chance that the slowly growing U.S. economy could be dragged into a recession in the second half of 2016.
Oil prices have since firmed up somewhat and the U.S. economy did not experience a downturn in the second half of the year, but all things considered, 2016 was a bumpy ride for bank stocks—until November 8, when Donald Trump’s surprise victory in the presidential election sent bank stock prices rocketing skyward. Valuations have been slowly recovering ever since the depths of the financial crisis in 2008, with some dips along the way. But since election day, stocks for banks above $250 million in assets have increased 21.2 percent to 24.8 percent, depending on their specific asset category, according to data provided by investment bank Keefe, Bruyette & Woods President and Chief Executive Officer Tom Michaud, who gave the lead presentation on the first day of the 2017 Acquire or Be Acquired Conference in Phoenix, Arizona.
What’s driving the surge in valuations is lots of promising talk about a possible cut in the corporate tax rate and various forms of deregulation, including the possible repeal of the Dodd-Frank Act and dismantling of the Consumer Financial Protection Bureau (CFPB). These tantalizing possibilities (at least from the perspective of many bankers), combined with the expectation that a series of interest rate increases by the Federal Reserve this year could ease the banking industry’s margin pressure and further boost profitability, has been like a liberal application of Miracle Grow to bank stock prices.
Michaud made the intriguing observation that investor optimism over what might happen in 2017 and 2018—but hasn’t happened yet—accounts for much of the jump in valuations since the election. “In my opinion, a lot of the good news is already in the stocks even though a lot of it hasn’t happened yet,” Michaud said. In fact, virtually none of it has happened yet. Investors have already priced in much of the increase in valuations resulting from a tax cut, higher interest rates and deregulation as if they have already occurred, which makes me wonder what will happen to valuations if any of these things don’t come through. I assume that valuations would then decline, although no one knows for sure, least of all me. But it should be acknowledged that the attainment of some of the already-priced-in-benefits of a Trump presidency, such as getting rid of Dodd-Frank and the CFPB, would have to overcome fierce opposition from Congressional Democrats while others, such as the combination of a corporate tax cut and a massive infrastructure spending program (which Trump has also talked about) would have to get past fiscally conservative Congressional Republicans. You’re probably familiar with the old saying that investors buy on the rumor and sell on the news. This could end up as an example of investors buying on the promise and selling on the disappointment.
Here’s the dilemma I think this sharp increase in valuations poses in terms of selling your bank or raising capital. If you’re an optimist, you probably will wait for another year or two in hopes of getting an even higher price for your franchise or stock. And if you’re a pessimist who worries about the sustainability of this industry-wide rise in valuations and the possibility that most of the upside from Trump’s election has already been priced into your stock, I think you’ll probably take the money and run.