It's throwback week! On this episode of Industry Focus: Financials, Gaby Lapera invites former host David Hanson back to talk about how the banking world has changed since he left the show. Find out what he's learned from being bullish on banks that have fallen -- and why he remains bullish on them still, how to look at investing in an industry as complicated and sluggish as banking, and more.
A full transcript follows the video.
This podcast was recorded on April 25, 2016.
Gaby Lapera: Ooh, Spooky time machine! This is Industry Focus, financials edition.
Hello everyone, welcome to Industry Focus financials edition. This is Monday, April 25th, 2016. My name is Gaby Lapera, and joining us in the studio today is David Hanson. Thanks for coming!
David Hanson: Of course, good to be back.
Lapera: It's really exciting -- you used to be on the show two years ago, one-and-a-half years ago -- years ago.
David: Yeah. Where the Money Is, or the show formally known as Where the Money Is.
Lapera: Yeah, I think we were calling it Where the Money Was... earlier.
David: Pour one out.
Lapera: David Hanson used to be here a couple years ago, and we decided it would be really cool this week on Industry Focus if we brought on some of the old show hosts, and so everyone is going to do this, this week. You have Michael Douglass to look forward to. I think the energy show isn't going to change -- I think Taylor Muckerman has been on that show for forever. Don't get too excited for Thursday, I guess.
Anyway, let's talk about what the show was like when you used to be on it. What were some of the things you used to talk about?
David: It was Matt Koppenheffer and I -- who has since moved to Germany and runs fool.de, our German site. Once Matt left, we had to reorganize the show, and gave birth to Industry Focus. I'm sure many of the listeners listened back then, but it used to be five days of all financials; so I'm sure many people are happy that it's just one day now.
Lapera: That sounds really stressful. I was trying to come up with topics for this show, and there's not a lot of news in banking, which is good, because normally, when there's news in banking, it's bad news. It's like a college buddy who calls you up, and they're like "Hey, how's it going ...
David: It's 3 a.m.
Lapera: "I need you to bail me out." That's the only time they call you up. That's what it's like with banking news, so it's kind of nice. But it's also kind of stressful for me, because I have to come up with things to talk about.
Hanson: We tried to keep it fresh; we had a lot of games: Investing Chicken, True or False; Fool in the Blank was an audience favorite. We kept it fun, but it's really good to be back. I've listened to the show, all the different segments we have now, so I think it's really cool.
Lapera: Awesome, I think I'm going to have to talk to you later about ...
Hanson: Fool in the Blank?
Lapera: Yeah, I'm pretty excited about that idea. I hear that you were really bullish on bank stocks one-and-a-half years ago. How has that changed?
Hanson: It really has not changed. If you go in and look at some of the large banks, I was more of a fan of the megabanks. I was a big bull on JPMorgan (NYSE:JPM) a year-and-a-half ago. Even further back then, over the last three years, I've been a fairly big bull on the big banks, and when you look at the performance over the last year-and-a-half, you'd be like, "I'm glad I didn't listen to that guy."
I was looking this morning, and over the past 18 months, almost every single big bank is either flat, up 5%, or down 5% to 10%. It's been a really boring year for those stocks, and I guess my portfolio, which is heavily weighted toward the financial stocks. I was a big bull on them just from a valuation perspective; there was a lot of pessimism. I still think there is a lot of pessimism built into the big banks. Some of the catalysts I was building into my thesis in terms of rates moving higher, yield curve getting a little bit steeper to make more interesting comments. I know you and Jay talked about last week -- it's been a tough environment for the big banks that rely... almost half of their revenue or more is from interests from loans.
That has not materialized. We were looking this morning, and rates are lower over the past year-and-a-half. That's crazy! Everyone is like, "Ten-year treasury can't go lower than two." Now we're at 1.7, 1.8, 30-year treasury is under 3%. These are catalysts that, if they'd gone the other way, would have really benefited banks, and you would have seen earnings tick up, and the valuation multiples, hopefully, expand. Which is also part of the big-bank thesis. Those things just haven't really happened. I still think they're going to happen, or I hope they will -- for the sake of the stocks that I've been a bull on, that I own.
Lapera: Not just them, but for the economy, in general, because those are signs that the economy is not doing great. It would be good if they went up because it means that we're all doing better.
Hanson: Right, and we're judging this on a year-and-a-half basis, which can seem like a long time in investing for certain things. But you also have to step back and say, all right, it didn't happen over a year-and-a-half, but that's a pretty short time in the banking cycle. We're not even to 10 years since Lehman Brothers and the financial crisis. In the scheme of history, that may take another five years to fully wash out of the system. It's humbled me from the fact that you can be right on a thesis, and it still happens, but getting the timing right and having everything line up exactly when you want it to does not always happen. I still am a believer in some of the things that guided my thesis a year-and-a-half ago on the big banks, but it just hasn't happened yet. I still think maybe it's this next year or two years from now. Still a believer.
Lapera: Your fundamental thesis still hasn't changed.
Lapera: That's one of the things that banking is -- banking is not tech. Things move so fast in tech, and it just doesn't in banking. There's tons of banks that don't even have a mobile app yet, which seems crazy to me. There's a lot of banks that they're not on the Internet. Those are typically the smaller banks. I was actually looking at a statistic today; apparently, between 2010 and 2015, only three new banks opened in the United States. Which is crazy because, on average, it was around 100 banks a year for a really long time. It's a sign of what the financial crisis did, but it's very reflective of the sluggish growth we've been having, in general, in banking.
Hanson: That's a good point that it's just a very different industry. If you're going to be invested in big banks, small banks, whatever, it's just very fundamentally different in terms of what drives the stock price as opposed to healthcare, or energy, or tech, or these industries that can have huge catalysts. Look at a biotech stock that they talk about on Healthcare: Industry Focus -- you can have a 50% pop in a day based on some reading or finding in the process there. That's just not going to happen in big banks, it's going to be a slow march up. I know one of the things that Motley Fool founder David Gardner says is that the stock market takes the stairs up and the elevator down. When it goes down, it goes down very quick and fast. I think banking may be very similar to that. The financial crisis took the elevator way down, and then the stairs are going to take a lot longer to get back up. You're not going to get the huge catalysts that you do in other industries.
Lapera: Yeah, and that's OK. Banking is not the sexy sector, unfortunately. I don't know what we could do; maybe have some of the CEOs wear bikinis during conference calls? Maybe that would help.
Hanson: That's terrifying.
Lapera: (laughs) That's a bad idea. It's still a very interesting field. The other thing that I was reading is that, apparently, consolidation has increased among banks, and I think that's mostly due to the regulatory requirements. Banks are required to have so much capital on hand that it's just hard for the smaller banks to survive in this regulatory environment. The other piece of news that I saw today about small banks is there is this guy... what was his name? He used to work for Warren Buffett, and he left under a haze of something fishy happened with their stock trading.
Hanson: I know what you're talking about. His name escapes me, as well, at the moment. Yeah, it was a couple years ago.
Lapera: He is actually out in Virginia now, and he owns a huge interest in Middleburg Bank, which is a local bank, and he is pushing to get them bought by someone else, because he says that anyone under $2 billion can't survive. I think, to the average person, you hear $2 billion, and you think, whoa, that's a lot of money; but in banking, it's really nothing.
Hanson: Not when you're dealing with balance sheets that have trillion-dollar asset bases. For JPMorgan or Bank of America (NYSE:BAC), $2 billion is a rounding error for them. On the consolidation in those banks, big banks becoming bigger, that scares some people. There are obvious downsides to that, it's very hard to understand everything that's going on in banks as they consolidate and get bigger. I know you and Jay talked about that last week, too. I think you mentioned Citigroup. I look at Citigroup's 10-K, and it's like, what in God's name is this business? And what's going on in here?
But I think there is a benefit to that, as well, that the perceived complexity, or the actual complexity of these big banks may artificially depress the valuations that they're getting, as well. Maybe that's always going to be an overhang, but I think, if you take the other side of that, it may be a benefit. You're saying, there's this bank out here that has a lot of earning power; Citigroup, JPMorgan, Bank of America -- they have the potential to generate returns on equity over 10%. But because they're so complex in the short run, people don't fully understand where all that's coming from. You can pay less for it. I think there's a balance there that's like, you have the complexity of Citigroup, but you're getting a discount because of that complexity -- as opposed to a small bank that you may look at and say, "I understand exactly what they do, they're only in West Virginia doing this type of loan." In that lack of complexity you're going to probably have to pay more for that on the valuation side. I don't fully say "complex bank bad, never buy it" I think you're always paying for it regardless of whether there's a lot of complexity or not.
Lapera: As we've been seeing with the oil patch banks, that lack of diversity can really hurt a bank in the long term if things go sour for them. I think that what we should do one day -- I don't know if you listened to the episode with Tim Hanson, who is a small-bank guy. We should have a Hanson v. Hanson day; I think that would be great. We have a lot of Hansons in the office. I thought it would be hilarious to put all the Hansons in one room. I think there would be six people, and only three of them would actually be qualified to actually talk about stocks.
Hanson: That's OK then.
Lapera: They could just give their opinion. As a throwback to your throwback days, I thought that we should play Two Truths and a Lie. For listeners who haven't been in college recently, or gone to summer camp, or anything like that, Two Truths and a Lie is exactly what it sounds like. I'm going to tell David Hanson two truths and a lie, and he has to pick out which one is which.
Hanson: Okay, go. Are these all banking related, or is this just, like, life?
Lapera: Oh, well I could tell you two truths and a lie about me.
Hanson: Let's just stay in the banking zone, maybe.
Lapera: Okay, they're financially related is what it is.
Lapera: Do you remember Countrywide?
Hanson: Yes. Of course. I don't know if you know this -- I worked at Bank of America before I worked here.
Lapera: No, I did not know that.
Hanson: I didn't buy Countrywide, I wasn't involved in that decision, so I don't lose all credibility; but I was there during the aftermath of digesting it.
Lapera: That must have been terrible. Bank of America really needed some Tums for Countrywide.
Hanson: Countrywide, yeah, I'm familiar.
Lapera: Just for our listeners, just in case you don't know or don't remember Countrywide -- they were a sub-prime mortgage lender that was really active before the financial crisis. I actually was looking up some statistics on them. It turns out that they were responsible for 20% of all mortgages issued pre-financial crisis -- which is insane. It was something like 3.5% of America's GDP was accounted for by Countrywide, which is nuts. Anyway, back in the midst of the financial crisis, Bank of America decided to purchase Countrywide. This is 2008; they bought them for $2.5 billion, and this is a decision they would come to regret in the next eight years, because they spent around $20 billion in fees -- in legal fees and bad mortgages and everything associated with Countrywide. This is my first fact.
Hanson: Okay, got it, taking notes.
Lapera: Okay, good, you're very organized. In 2008, one of the men who banked with Lloyd's got pretty mad at them, and so he changed his telephone banking password, which I did not know was a thing, to what in American English essentially translates too, "Lloyd's blows chunks," and the bank -- some bank staffer got really mad, and changed it to "No, it doesn't" without telling him --which he realized when he attempted to call in. The bank refused to let him change it to either "Barclays is better" or "Censorship."
Lapera: I don't know... maybe he's still trying to change his bank password to this day. I'm not really sure. Then, my third fact is, that this morning, Bitcoin won the right to be a payment institution in Luxembourg, and thus in the rest of the EU. This is a big deal for them because they'd been blocked out of the EU for quite a few years.
Hanson: Luxembourg or Bitcoin?
Hanson: Okay, what's the price of the Bitcoin now? That was also a recent topic on Where The Money Is. I don't know if you know this, but The Motley Fool actually owns a fraction of the Bitcoin.
Lapera: A fraction of the Bitcoin?
Hanson: That we purchased as part of a research project a couple years ago.
Lapera: How much is Bitcoin worth? I'm googling it right now. It is worth $463.73 U.S. dollars.
Hanson: That maybe similar to a year-and-a-half ago. I see nothing has changed since I left this podcast.
Lapera: It is similar to a year-a-half ago; it's slightly higher.
Hanson: Two truths and a lie. I'm going to say that the Countrywide fact is a lie.
Lapera: Why do you think it's a lie?
Hanson: $20 billion sounds low.
Lapera: It is low! Congratulations... this is mind-boggling to me. Do you want to know how much it actually was?
Hanson: I guess I do, yeah.
Lapera: $64 billion.
Lapera: That's a lot of money.
Hanson: So $2 billion, purchased for $2.5?
Lapera: Around that, I think they said that, when all was said and done, they spent around $4 billion with all the shenanigans with actually having to purchase it.
Hanson: That's incredible. $64 billion.
Lapera: In total, Bank of America has spent around $195 billion settling problems from the financial crisis. On the bright side, they're done with that, so maybe they can move on.
Hanson: It's really crazy to step back and think about it. Like I said, we're less than 10 years out of this cycle, or from the event of the financial crisis. I think we're going to look back in 40 years and be like, "Wow, 2016 was still really close to the financial crisis." In the scheme of history, of these huge banking crises, we look back, and eight years is still relatively close. It's going to take a long time for this to fully be in the rear-view mirror, despite them having to still pay out $100-something billion. I think it will still be around for a couple more years.
Lapera: Yeah, and things changed a lot with the financial crisis, just in terms of regulations, so we don't really know 100% how it's going to shake out. Banks are still trying to come up to code, it takes longer than eight or nine years to come up to code, because they're so big, and there's so many assets, and they're complicated. Even Wells Fargo is complicated.
Hanson: Not as complicated at Bitcoin.
Lapera: Not as complicated as Bitcoin.
Hanson: So Luxembourg, I can use my Bitcoin. Alright. Motley Fool Luxembourg. We can finally open it with our Bitcoin stash.
Lapera: With your fraction of the Bitcoin. I didn't know you could buy fractions of Bitcoins. I'm so uninformed on Bitcoins.
Hanson: There's a lot of stuff you don't want to know about Bitcoin.
Lapera: I get really intimidated by it.
Hanson: It's a mad world out there.
Lapera: Some guy I went to middle school with is huge on Bitcoins, and he's a little strange. But he seems nice.
Hanson: Is that a truth or a lie? He may be playing you.
Lapera: Those are all truths. Do you think he's playing me? Do you think he's not strange? You think he's, like, average Joe?
Hanson: I don't know. It's a definitely interesting community of understanding what Bitcoin's worth. When Matt and I were on the show, we were pretty adamantly not in favor of buying Bitcoin as an investment. I know it had a time where it basically 10 timed over a month, and then crashed.
Lapera: There was a hack right?
Hanson: The Mt. Gox hack/coding went haywire. I don't remember the details of it, but it essentially crashed 80% overnight. Everyone got scared. I think it has since recovered to this $400 range, but it's been a year-and-a-half, I haven't seen the emergence of Bitcoin in too many other places, so I'm still on the sidelines on Bitcoin. We'll keep our fractional Bitcoin, but my 401(k) is not in Bitcoin yet.
Lapera: Fair enough. Thank you very much for joining us! As usual, people on the program may have interest in the stocks they talk about, and The Motley Fool may have recommendations for or against, so don't buy or sell stocks based solely on what you hear. Contact us at firstname.lastname@example.org, or by tweeting us @MFindustryfocus. Let me know which one is your favorite analyst. You have Jay Jenkins, Jordan Wathen, John Maxfield, Dan Caplinger, and now David Hanson.
Hanson: Come on people, please.
Lapera: Vote for David. Thank you guys very much for joining us, thank you David, and everyone have a great week!
David Hanson owns shares of JPMorgan Chase. Gaby Lapera has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Wells Fargo. The Motley Fool has the following options: short May 2016 $52 puts on Wells Fargo. The Motley Fool recommends Bank of America. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.