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Bank Statements

The Waiting Room

Boy—are people ever grumpy. I know—we’re in the midst of one of the worst winters of recent years, February is an unremittingly grim month anyway, the news from Washington (and now Europe) is pretty bad, and we’re all continuing to deal with the aftermath of the ‘00’s. And bank stock investors have good reason to be especially morose—these stocks are going nowhere after their sharp rebound from the depths of March, 2009, and new obstacles for the banks seem to arise on a weekly basis. What’s the issue this week? Is it the likelihood of ongoing tidal waves of foreclosures in the housing industry? Is it the newest Washington iteration of financial services reform? Is it the newly-arisen issue of the need for the mortgage servicers to provide ever more reserves for mortgage reps and warranties? Pick your poison—and you can find it right now in the banking industry.

Readers know that I have seldom chosen to serve as a cheerleader for the banks—especially some of the bigger and dumber ones—and I won’t try to do so now. But as I have talked to clients recently and listened to the litany of concerns about the banking industry, I continue to be struck by one thing—the absence of almost any conversation about an earnings recovery. We all need to remind ourselves of one thing—earnings matter, and in the end they will be all that will matter. The White House can continue to browbeat, Greece can continue its march toward third-world status, Paul Volcker can continue his “rules” tour, but in the end, none of this can obscure the fact that credit quality will turn, loss reserves will stop being built, and at some point—accounting rules remaining unchanged—those reserves will need to be drawn down. And all of this would likely occur simultaneously with a rebound in commercial loan demand and at a time when the yield curve remains relatively steep—and at that point, sentiment will change on a dime, and change massively.

It’s true that we will not return to the conditions of 2005 and 2006—but that’s not a bad thing. Yes, consumers will continue to de-leverage, the credit card business will be downsized and its profitability characteristics will be altered, and the banks will have to work their way through the maze of new restrictions on consumer fees. Most importantly, they will have to continue to carry large levels of capital on which returns will be depressed—at least in the near term. But bear in mind that nothing is forever in the banking industry. It seems to be sinking in in Washington that banks have chosen to hoard capital at the expense of lending to small business, and that job creation is suffering as a result. I think that the signs are that White House is beginning to “get it” when it comes to the reality of the 2010 elections—and that the rhetoric and the reality around the banking industry are changing as a result.

I would also hazard one other observation—that the ongoing travails of Bank of America (BAC-Hold) are having an outsized impact on sentiment around the other bank stocks. The role of industry bellwether has shifted from Citigroup (C-Not covered) to BAC as Citi has been downsized and its domestic relevance has withered, and the ongoing use of BAC as a convenient whipping boy for agendas of the Judge (Rakoff) and the Executioner (Cuomo) continues to serve as a convenient reminder of the banking industry’s ongoing state of low public regard. This too shall pass. BofA also has only to sit there and wait for credit to turn—which may be happening even as I write this—before even their beaten-up status begins to change. I admit—being in the waiting room and in a state of endless anxiety is no fun, and that’s where all of us who care about bank stocks are presently. But just remember the rush of relief that comes when it’s all over—and that day is coming.