Why Exhausted Bankers Mean Big Profits

Last month, the CEO of a community bank in the Philadelphia area decided to retire.

Frederick "Ted" Peters, the CEO of Bryn Mawr Trust BMTC, is stepping down as CEO at the end of 2014. Mr. Peters has been a bank CEO for 28 years, and has started and successfully sold two banks during his career. During his tenure at Bryn Mawr, he has overseen the acquisition of five banks, and a sixth deal should be completed before he leaves at the year's end.

It seems that this activity has prepared him for his next career move: He plans to start a hedge fund to invest community bank stocks.

Hedging Bets On Bank Stocks

In an interview with Philadelphia Inquirer reporter Jane M. Von Bergen, Mr. Peters outlined why he was choosing this new career path. "We're in an industry that has seen a lot of consolidation because of the low [interest] rate environment, squeezing banks. We're seeing increased regulatory pressure on banks. Every year it gets worse.” He continued: “If you buy a stock that is taken over, the increase in its price the very first day is anywhere between 25 to 75 percent."

Mr. Peters further explained the type of bank he was interested in buying. “There are certain characteristics: The CEO is 62 or older. There's a large family position that needs liquidity. They've been under a regulatory order, which is a very good thing if you want to buy a bank that might be taken over. Those banks have management fatigue because they are getting beat over the head all the time.”

Related Link: Think Small Banks For Big Profits

Stricter Banking Standards Mean Corporate Burnout

Management fatigue and executive exhaustion are very real factors in the bank consolidation wave that is developing, and Mr. Peters makes an excellent point about those operating under consent orders and memorandums of understanding with various government agencies.

It has been difficult enough to be banker during the past five years, but those who have dealt with increased regulatory supervision have to be exhausted and frustrated at this point. Add to this the difficulty of making money in a slow-growth economy with low interest rate margins, and it is no wonder that many bankers are looking for an exit.

Focus Is On Bargain Issues

Searching for banks operating under some sort of regulatory order can be a daunting task. The information is available on the Office of the Comptroller of the Currency website (www.occ.gov), but needs to be dug out order by order. An easier way might be to look for those banks with Texas ratios above normal and read the various filings by the individual banks.

It is an arduous process, but one that is probably worth the effort it takes. Investors can also keep track of those banks doing a capital raise to satisfy regulators' concerns. When finding a bank operating under a regulatory order, what investors want to see is one that is taking the steps to fix problems and is showing steady progress in reducing problem loans and assets while increasing capital levels.

Finding stocks with Mr. Peters' other requirement is a little easier to accomplish. There are several web-based screens that allow you to quickly identify community banks with a large percentage of inside ownership. Using the tool at www.gurufocus.com right now shows that there are 134 publicly-traded banks with less than a $500 million market capitalization that have insider ownership of greater than 10 percent.

Thirty-seven of those trade for less than book value and could be considered bargain issues. Seventy of these little banks trade at a discount of 20 percent to the current average bank takeover multiple of 1.47 times book value and might also be worth consideration on a pullback.

Related Link: Smaller Banks Could Lead To Bigger Buys

Difficult Times Swamp Little Banks

While most investors ignore the tremendous opportunity in the small bank stocks and focus on the more popular stocks of the day, industry insiders are well aware of what is going on as well as the opportunity for enormous profits. A combination of increased regulatory costs, low interest margins and a slow-growth economy has combined to make this a very difficult time to be a banker.

Regional banks are finding that the only way to grow earnings and keep shareholders happy is to acquire smaller banks, and they are starting to find many of these little banks that are only too happy to sell.