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Photo: Kim Hansen.
In all fairness, if you live in Sweden, there's probably almost no chance you haven't heard of Svenska Handelsbanken AB. But most Fool.com readers aren't in Sweden and probably haven't heard of one of the country's largest banks.
It's a shame that more U.S. investors aren't more familiar with Handelsbanken -- it's a great example of how a major bank laughed in the face of a massive global financial crisis.
Here in the U.S., we like to think of Wells Fargo (WFC -1.11%), US Bancorp (USB -1.49%), and even JPMorgan Chase (JPM 0.15%) -- remember, the London Whale didn't happen until more recently -- as shining examples of banks that did well during the crisis. After all, none of the three reported a full-year loss during the years of the crisis and if we track the stocks from 2007 forward, they're all showing gains in the 30%-plus range.
That's not bad, but Handelsbanken saw its earnings fall by just a third from the peak in 2007 to the trough in 2009 (Wells Fargo's earnings fell nearly 70% from 2007 to 2008). Meanwhile, the bank's stock put the others to shame.
That's not a mistake: Handelsbanken's stock has roughly doubled since 2007. Take that, global financial crisis.
The obvious next question is: How exactly did Handelsbanken manage to avoid getting tripped up the way other banks did? That answer is covered in great detail by Niels Kroner in his book A Blueprint for Better Banking, which is focused on Handelsbanken and the magic behind its performance.
So while I can't cover everything Kroner has -- nor would I want to because you should read the book yourself! -- there is one key list that he highlights as what separated banks like Handelsbanken from the fakers that got a rude awakening during the crisis. Kroner called that list the banks' "Seven Deadly Sins."
Here's how Kroner believes a bank becomes a sinner:
1. Asset/liability mismatches
The failed investment bank Lehman Brothers is infamous for its use of short-term financing to fund longer-term assets. The approach worked well when times were good, but when the going got rough, short-term financing was pulled and Lehman was snuffed out.
And while it's easy to finger-wag at Lehman, things got so dicey for many major banks around the world because they were likewise relying on short-term financing.
2. Supporting clients' balance sheet mismatches
A bank can keep on top of its own asset/liability mismatches, but if it's financing customers that have mismatches of their own, it can open up the bank to problems.
A current example worth keeping an eye on is the funding provided to mortgage REITs like Annaly Capital (NLY 0.59%). Essentially all of Annaly's mortgage assets (nearly $80 billion worth) have maturities greater than a year. However, much of the company's financing ($69 billion) comes through repurchase agreements, with the bulk of that maturing over a period of fewer than 120 days.
3. Lending to over-indebted customers
Don't lend to people who can't pay back the loans. It would seem that banking doesn't get any simpler than that, yet we've heard endless stories stemming from the financial crisis of wildly over-indebted customers being loaned piles of cash.
4. Investing in non-core assets
Reaching for returns or yield is the classic way that banks get themselves wrapped up in this sin. But time and again through history, we've seen banks putting all sorts of whacky things on their balance sheets. It's a move that often ends in tears for shareholders.
Investors love Peter Lynch's "Buy what you know" dictum. Banks could do well to follow the same. A Midwestern agriculture bank has no business dabbling in CDO-squareds, no matter what the slick Wall Streeter says.
5. Dealing with the non-bank financial system
What you didn't see could, and did, hurt you during the financial crisis. Off-balance-sheet vehicles and dealings with more lightly regulated "banks" like Lehman and Bear Stearns got many banks trapped in schemes that never should have passed the smell test.
6. Emerging markets and real estate
You know what they say about things that seem too good to be true? That's often the case for banks investing in emerging markets. While emerging markets often exhibit growth that makes developed-markets banks' mouths water, those booms often come with crippling busts.
Those busts are devastating for banks based in those countries, but they can also blow a hole in the balance sheets of foreign banks that aggressively moved in to ride the growth wave.
7. The continuity of the past to the future
We hear all the time from Wall Street types that past performance is not indicative of future results. Yet bankers often seem most attached to that idea.
Housing prices never go down? Sure! Build it into the model. I'm sure nothing will go wrong.
Putting it to practice
There's reason to be disappointed with the "Seven Deadly Sins" above. The list of sins doesn't lend itself well to number crunching. Some -- off-balance-sheet assets, for instance -- will be all but unseen until it's too late. So running a bunch of statistics through Excel won't be of much help.
Instead, it's critical that the investor get to know and understand the strategy of the bank they're investing in as well as who's steering the ship. You may not know specifically that there aren't closets full of credit default swaps just waiting to blow up, but you can know whether you've invested in a conservative bank with management that looks 10 years down the road, not one quarter.
This entails more work than blindly plugging return-on-asset numbers into a spreadsheet, but it's far from impossible.
If we rewind to July of 2007, for instance, Citigroup's (C -1.09%) then-CEO, Chuck Prince, made his famous "dancing" comment. He said:
When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you've got to get up and dance. We're still dancing.
At around the same time, Bruce Helsel, an executive vice president at Wells Fargo, had this to say at an investment conference:
Our credit quality reflects the advantage of our diversified business model... we have not had to offer option ARMs or low no-doc type of product as we are not forced to be that competitive. And we are willing to lose market share by not offering those products.
Quite a disparity in approaches to the business. Also, quite a disparity in investment performance for shareholders. Citigroup's stock is down 90% since July 2007, while Wells Fargo's is up 24% over the same period.
