WEBVTT - Tom Michaud Talks Bank Stress Tests.

0:00:02.440 --> 0:00:08.080
<v Speaker 1>Bloomberg Audio Studios, podcasts, radio news joining us now. I'm

0:00:08.119 --> 0:00:13.160
<v Speaker 1>so pleased to say, as Tamashad, CEO of a Kbwstfel company, Tom,

0:00:13.400 --> 0:00:15.960
<v Speaker 1>a lot of people have been raising this issue about

0:00:15.960 --> 0:00:19.000
<v Speaker 1>whether we're fighting the wrong war and whether maybe some

0:00:19.280 --> 0:00:24.000
<v Speaker 1>of what the regulators are targeting with banks is counterproductive

0:00:24.040 --> 0:00:26.360
<v Speaker 1>for the current cycle. Do you think that that's going

0:00:26.400 --> 0:00:27.880
<v Speaker 1>to be in focus later this week?

0:00:28.000 --> 0:00:29.880
<v Speaker 2>Well, I think first of all, with the stress test,

0:00:30.080 --> 0:00:31.520
<v Speaker 2>the first thing you're going to see is that the

0:00:31.600 --> 0:00:34.680
<v Speaker 2>banks are in very, very good shape. Remember, the stress

0:00:34.720 --> 0:00:37.760
<v Speaker 2>tests were set up to look at an adverse scenario

0:00:38.240 --> 0:00:41.120
<v Speaker 2>to show the marketplace that they have plenty of capital

0:00:41.159 --> 0:00:44.560
<v Speaker 2>to withstand that. And we think that the conversation is

0:00:44.600 --> 0:00:48.479
<v Speaker 2>going to move away from that to individual company analysis quickly,

0:00:48.800 --> 0:00:52.080
<v Speaker 2>which is actually a really positive statement about how the

0:00:52.080 --> 0:00:55.680
<v Speaker 2>industry has been continuing to build capital. The other thing

0:00:55.800 --> 0:00:58.000
<v Speaker 2>is the industry has not only been building capital for

0:00:58.040 --> 0:01:00.800
<v Speaker 2>the stress test, but the industry's been building capital get

0:01:00.800 --> 0:01:02.400
<v Speaker 2>ready for Basel three endgame.

0:01:02.920 --> 0:01:04.600
<v Speaker 3>So that's been the big story.

0:01:04.680 --> 0:01:07.080
<v Speaker 2>So I think the first box to check is that

0:01:07.160 --> 0:01:09.280
<v Speaker 2>the industry is going to come out it's being very

0:01:09.280 --> 0:01:12.479
<v Speaker 2>well capitalized. And then they're going to be individual companies

0:01:12.480 --> 0:01:14.759
<v Speaker 2>that are pivoting in one direction or another.

0:01:14.880 --> 0:01:16.039
<v Speaker 3>So there's a lot to unpack.

0:01:16.280 --> 0:01:19.720
<v Speaker 1>There's a question about which banks, let's start here, are

0:01:19.720 --> 0:01:22.160
<v Speaker 1>really strong and resilient, right. I mean, it's one thing

0:01:22.160 --> 0:01:24.080
<v Speaker 1>to say JP Morgan and Bank of American and City

0:01:24.080 --> 0:01:25.920
<v Speaker 1>Group pre are going to fail. I don't think anyone

0:01:25.959 --> 0:01:28.080
<v Speaker 1>is saying that they're at risk of any kind of

0:01:28.600 --> 0:01:31.880
<v Speaker 1>real potential turmoil. It's really the regionals. At what point

0:01:31.880 --> 0:01:33.120
<v Speaker 1>do we get to the confidence there?

0:01:33.280 --> 0:01:36.080
<v Speaker 2>So there are twenty three banks in this test that's

0:01:36.120 --> 0:01:38.559
<v Speaker 2>coming on Wednesday, so they start to go down into

0:01:38.560 --> 0:01:42.800
<v Speaker 2>the super regional category. I think for all twenty three banks,

0:01:43.000 --> 0:01:45.000
<v Speaker 2>the market's going to say they have plenty of capital.

0:01:45.800 --> 0:01:48.560
<v Speaker 2>I think for the regional banks, the regional banks are

0:01:48.600 --> 0:01:51.120
<v Speaker 2>still in pretty good shape, except for the ones where

0:01:51.160 --> 0:01:53.920
<v Speaker 2>there might be more concern around real.

0:01:53.760 --> 0:01:55.920
<v Speaker 3>Estate exposure for example.

0:01:55.640 --> 0:01:59.920
<v Speaker 2>And you're seeing a downturn in some of their results,

0:02:00.280 --> 0:02:03.279
<v Speaker 2>but by and large, and again I think it's.

0:02:03.240 --> 0:02:05.040
<v Speaker 3>Very narrow as to where the concern is.

0:02:06.160 --> 0:02:09.360
<v Speaker 2>Just in preparation for coming today, I was interested about dividends.

0:02:09.560 --> 0:02:11.600
<v Speaker 2>I went back and looked at that there are seventy

0:02:11.639 --> 0:02:14.280
<v Speaker 2>four banks that are in the KEEF Bank Index or

0:02:14.320 --> 0:02:15.560
<v Speaker 2>regional bank Index.

0:02:15.880 --> 0:02:17.760
<v Speaker 3>If you look at since the beginning.

0:02:17.360 --> 0:02:22.280
<v Speaker 2>Of last year, five of them cut or eliminated their dividend. Meanwhile,

0:02:22.680 --> 0:02:26.040
<v Speaker 2>fifty four of them raised their dividends over that period.

0:02:26.600 --> 0:02:30.200
<v Speaker 2>The industry is actually in really, I think, pretty good

0:02:30.240 --> 0:02:32.839
<v Speaker 2>shape for the challenges that we've had, and I think

0:02:32.880 --> 0:02:36.240
<v Speaker 2>that the areas of concern are generally more narrow than

0:02:36.280 --> 0:02:39.600
<v Speaker 2>you would think. And then remember last year's bank failure

0:02:39.639 --> 0:02:43.760
<v Speaker 2>moment was really around a liquidity crisis, and what we

0:02:43.840 --> 0:02:46.800
<v Speaker 2>realized is that some banks had gotten off sides in

0:02:46.880 --> 0:02:49.880
<v Speaker 2>terms of their concentrations and their deposits. I don't think

0:02:49.960 --> 0:02:52.200
<v Speaker 2>that that was a broad based trend even so.

0:02:52.360 --> 0:02:53.960
<v Speaker 4>I mean, every now and again you hear of another

0:02:54.000 --> 0:02:56.560
<v Speaker 4>bank that maybe isn't hedged to interest rates. The latest

0:02:56.560 --> 0:02:58.160
<v Speaker 4>one was a large bank out of Japan, I think

0:02:58.160 --> 0:03:01.960
<v Speaker 4>their largest agricultural bank, who was basically positioned for rates

0:03:02.000 --> 0:03:04.840
<v Speaker 4>coming lower. Obviously that hasn't happened yet. When you hear

0:03:04.880 --> 0:03:07.640
<v Speaker 4>these incidents of pockets of stress, do you think that

0:03:07.680 --> 0:03:09.880
<v Speaker 4>these are still the rare bank that have been hedged

0:03:09.960 --> 0:03:12.720
<v Speaker 4>against the current rate environment, or if it's higher for longer,

0:03:12.960 --> 0:03:13.919
<v Speaker 4>do we hear more of this.

0:03:14.120 --> 0:03:16.600
<v Speaker 2>So I think with the focus for this conversation right

0:03:16.639 --> 0:03:19.200
<v Speaker 2>now being in the US, I'll go to our Bank

0:03:19.240 --> 0:03:23.560
<v Speaker 2>America upgrade, which we did recently. We have earnings models

0:03:23.600 --> 0:03:27.119
<v Speaker 2>by quarter for net interest income. I think just about

0:03:27.160 --> 0:03:29.640
<v Speaker 2>all of the two hundred and twenty banks we follow,

0:03:29.720 --> 0:03:32.160
<v Speaker 2>nearly all are going to hit a bottom on a

0:03:32.240 --> 0:03:35.760
<v Speaker 2>quarterly basis, either last quarter or this quarter. That's the

0:03:35.800 --> 0:03:39.240
<v Speaker 2>reason why we upgraded Bank America is the second quarter

0:03:39.360 --> 0:03:42.000
<v Speaker 2>is the inflection point, and it gets better from here.

0:03:42.240 --> 0:03:44.200
<v Speaker 2>So it's all a question of timing. Let me there's

0:03:44.200 --> 0:03:48.560
<v Speaker 2>another point. The five month, five year, three month, five year,

0:03:48.920 --> 0:03:51.640
<v Speaker 2>you'll curve spread is the most important for banks. I

0:03:51.720 --> 0:03:54.880
<v Speaker 2>know that that plenty tentions on two tens. That's not

0:03:55.080 --> 0:03:58.560
<v Speaker 2>the key for the banks. It's been sixty two years

0:03:58.960 --> 0:04:02.080
<v Speaker 2>since we've seen the length of time for the inversion

0:04:02.120 --> 0:04:05.200
<v Speaker 2>that we've had. So all things really kind of need

0:04:05.240 --> 0:04:07.520
<v Speaker 2>to do is get a little bit less bad for

0:04:07.600 --> 0:04:08.600
<v Speaker 2>these banks to do a.

0:04:08.520 --> 0:04:09.280
<v Speaker 3>Little bit better.

0:04:09.720 --> 0:04:12.240
<v Speaker 2>And I think that pivot is right here right now,

0:04:12.560 --> 0:04:16.039
<v Speaker 2>and these banks have a lot of bad news in them.

0:04:16.320 --> 0:04:18.880
<v Speaker 2>As long as we don't get a hard landing, I

0:04:18.880 --> 0:04:22.520
<v Speaker 2>think you're going to see a continuing quarterly improvement.

0:04:21.960 --> 0:04:23.560
<v Speaker 3>Over the next four or five quarters.

0:04:24.240 --> 0:04:27.479
<v Speaker 2>And also too, there are specific types of banks like

0:04:27.520 --> 0:04:30.080
<v Speaker 2>more than others. But this is a great opportunity if

0:04:30.080 --> 0:04:31.159
<v Speaker 2>you can look longer term.

0:04:31.360 --> 0:04:33.040
<v Speaker 4>We think, I know you want to stay in the US,

0:04:33.160 --> 0:04:34.960
<v Speaker 4>but I have to take you to Europe, especially given

0:04:35.000 --> 0:04:36.240
<v Speaker 4>we're going to get one of the first rounds of

0:04:36.279 --> 0:04:39.080
<v Speaker 4>French voting on the thirtieth. You've had the likes of

0:04:39.160 --> 0:04:42.000
<v Speaker 4>JP Morgan really be courted by mccraul and saying come

0:04:42.080 --> 0:04:44.240
<v Speaker 4>move to Paris in a post Brexit world, and you've

0:04:44.240 --> 0:04:46.840
<v Speaker 4>seen other US banks do something similar, really building up

0:04:47.040 --> 0:04:51.159
<v Speaker 4>operations and talent bases in Paris. If there is political volatility,

0:04:51.600 --> 0:04:52.320
<v Speaker 4>what happens.

0:04:52.920 --> 0:04:55.600
<v Speaker 2>So I think it's really the big picture of what's

0:04:55.600 --> 0:04:57.680
<v Speaker 2>happening with the economy. One thing I would note is

0:04:57.720 --> 0:04:59.919
<v Speaker 2>over the last twelve months banks have been the.

0:05:00.120 --> 0:05:01.400
<v Speaker 3>Leading group in Europe.

0:05:02.040 --> 0:05:04.279
<v Speaker 2>Again, there was so much bad news in these stocks,

0:05:04.400 --> 0:05:07.080
<v Speaker 2>and really what you need in Europe is you needed

0:05:07.120 --> 0:05:10.960
<v Speaker 2>some improvement in the rates. Negative interest rates were certainly

0:05:11.279 --> 0:05:15.560
<v Speaker 2>adversely affecting the banks. Our sense, as it all comes

0:05:15.600 --> 0:05:17.720
<v Speaker 2>down to what the economy is doing, we still think

0:05:17.760 --> 0:05:20.560
<v Speaker 2>there's upside for the banks, because the banks have done

0:05:20.560 --> 0:05:24.000
<v Speaker 2>a lot to stabilize themselves over the last several years,

0:05:24.000 --> 0:05:26.200
<v Speaker 2>and many of those stocks still trade at sixty percent

0:05:26.200 --> 0:05:28.840
<v Speaker 2>of book value. So we think that the bigger banks

0:05:28.880 --> 0:05:32.000
<v Speaker 2>are stable in Europe, and it's a question now of

0:05:32.040 --> 0:05:33.480
<v Speaker 2>what's happening in the economy.

0:05:34.360 --> 0:05:36.400
<v Speaker 4>Does it consider we've heard last week from the FED

0:05:36.480 --> 0:05:38.200
<v Speaker 4>in terms of living wills and some of the US

0:05:38.279 --> 0:05:41.039
<v Speaker 4>biggest banks finding some shortcomings when it comes to likes

0:05:41.040 --> 0:05:42.599
<v Speaker 4>of Bank of America City.

0:05:43.160 --> 0:05:45.400
<v Speaker 2>You know, you remember that teacher in college who was

0:05:45.400 --> 0:05:48.280
<v Speaker 2>always a hard greater, who never really gave out the oh,

0:05:48.320 --> 0:05:50.279
<v Speaker 2>this is perfect, You're all done, you don't have to

0:05:50.279 --> 0:05:53.560
<v Speaker 2>do anymore. I will imagine for the rest of my career,

0:05:54.040 --> 0:05:56.039
<v Speaker 2>every year there will be more work to do on

0:05:56.080 --> 0:05:59.479
<v Speaker 2>a living will. Okay, And if you look at the

0:05:59.520 --> 0:06:03.320
<v Speaker 2>living will, JP Morgan had work to do, City Group

0:06:03.360 --> 0:06:06.760
<v Speaker 2>had work to do. Really, these living wills were evolving

0:06:06.760 --> 0:06:09.440
<v Speaker 2>with the risks of the moment. And also, I would say,

0:06:09.480 --> 0:06:13.479
<v Speaker 2>given last year's bank failures, the FDIC has probably sharpened

0:06:13.480 --> 0:06:16.479
<v Speaker 2>their pencil on these living wills. But so I would

0:06:16.560 --> 0:06:19.360
<v Speaker 2>view it as as a living, breathing thing. I didn't

0:06:19.400 --> 0:06:22.120
<v Speaker 2>see our view on it is the banks are going

0:06:22.160 --> 0:06:24.480
<v Speaker 2>to spend more money at preparing for them, but that

0:06:24.560 --> 0:06:28.640
<v Speaker 2>there was nothing devastating or really significant in what we

0:06:28.720 --> 0:06:29.720
<v Speaker 2>read in the results.

0:06:30.200 --> 0:06:32.520
<v Speaker 1>To say, the reason why I started by asking you,

0:06:32.600 --> 0:06:35.400
<v Speaker 1>are we looking at the wrong risks is because in

0:06:35.440 --> 0:06:38.360
<v Speaker 1>the past couple of years, first of all the risks

0:06:38.360 --> 0:06:41.719
<v Speaker 1>that I hear about what profitability opportunities do some of

0:06:41.720 --> 0:06:44.400
<v Speaker 1>these smaller banks have when they're facing off with the

0:06:44.520 --> 0:06:47.679
<v Speaker 1>rush of money into private capital. That's a big question

0:06:47.720 --> 0:06:48.200
<v Speaker 1>at this point.

0:06:48.279 --> 0:06:51.320
<v Speaker 2>Oh, there are some tectonic plates that are moving that

0:06:51.640 --> 0:06:53.160
<v Speaker 2>if you want, you got to, if you want, take

0:06:53.160 --> 0:06:55.159
<v Speaker 2>a step back and not look at the snapshot and

0:06:55.200 --> 0:06:58.160
<v Speaker 2>look at the movie. Yes, and really what it comes

0:06:58.240 --> 0:07:02.039
<v Speaker 2>down to was funding and liquidity and deposits. Banks don't

0:07:02.080 --> 0:07:06.200
<v Speaker 2>fail because of capital. Banks fail because there's a bank run,

0:07:06.680 --> 0:07:08.440
<v Speaker 2>and there have been very few of them in the

0:07:08.520 --> 0:07:11.880
<v Speaker 2>United States. So the capital's fine, but really, what's happening

0:07:11.880 --> 0:07:16.080
<v Speaker 2>in the deposit base. I think the greatest missed opportunity

0:07:16.160 --> 0:07:20.000
<v Speaker 2>from last year is there's not been FDIC deposit insurance

0:07:20.000 --> 0:07:23.000
<v Speaker 2>reform because it puts too much pressure on the small

0:07:23.040 --> 0:07:26.119
<v Speaker 2>banks and it's encouraging market share to move up gap

0:07:26.360 --> 0:07:26.680
<v Speaker 2>to the.

0:07:26.600 --> 0:07:28.320
<v Speaker 3>Banks that have proven that they're too.

0:07:28.280 --> 0:07:30.560
<v Speaker 2>Big to fail, and it also yeah, so that's the

0:07:30.560 --> 0:07:33.080
<v Speaker 2>biggest And then number two is when it comes to

0:07:33.160 --> 0:07:37.560
<v Speaker 2>stock selection. The way that regional banks, smaller community banks

0:07:37.600 --> 0:07:40.520
<v Speaker 2>earn money in the biggest banks is very different. The

0:07:40.600 --> 0:07:43.720
<v Speaker 2>smaller banks have more real estate and more spread income.

0:07:44.000 --> 0:07:46.880
<v Speaker 2>They are going to be slower to rebound the bigger

0:07:46.920 --> 0:07:51.080
<v Speaker 2>banks have. Bank America, amongst the biggest banks, has some

0:07:51.120 --> 0:07:54.120
<v Speaker 2>of the least amount of commercial real estate exposure. These

0:07:54.120 --> 0:07:57.320
<v Speaker 2>bigger banks have already made the shift away from that,

0:07:57.640 --> 0:08:00.480
<v Speaker 2>and that's why we are leaning in heavier on these

0:08:00.480 --> 0:08:03.160
<v Speaker 2>bigger banks for the stock ideas. We think it's going

0:08:03.240 --> 0:08:05.720
<v Speaker 2>to take a little bit more time for the regional

0:08:05.760 --> 0:08:06.480
<v Speaker 2>banks to turn.

0:08:06.680 --> 0:08:09.520
<v Speaker 1>There might be safety and even profitability in some of

0:08:09.560 --> 0:08:12.920
<v Speaker 1>the bigger banks. There isn't so much of the classic

0:08:13.000 --> 0:08:15.080
<v Speaker 1>market making. And this is the other risk that people

0:08:15.120 --> 0:08:18.160
<v Speaker 1>talk about liquidity risk on another level, that they're not

0:08:18.240 --> 0:08:22.280
<v Speaker 1>going to be able to shepherd this amount of bond

0:08:22.280 --> 0:08:26.400
<v Speaker 1>auctions into the market and allow the trading to commence

0:08:26.600 --> 0:08:30.440
<v Speaker 1>with the same kind of stability that has in the past.

0:08:30.880 --> 0:08:31.640
<v Speaker 3>Does that keep you.

0:08:31.640 --> 0:08:32.120
<v Speaker 4>Up at night?

0:08:32.440 --> 0:08:34.280
<v Speaker 3>No, you're talking about the treasury market.

0:08:34.040 --> 0:08:35.640
<v Speaker 1>And the treasury of particular, given the fact that the

0:08:35.679 --> 0:08:37.480
<v Speaker 1>market has swollen to such a huge part.

0:08:37.520 --> 0:08:38.800
<v Speaker 3>But it's also the credit market.

0:08:38.920 --> 0:08:41.280
<v Speaker 1>I hear about this with public credit as well well.

0:08:41.520 --> 0:08:45.480
<v Speaker 2>What I take out of that is passive investing is

0:08:45.480 --> 0:08:48.480
<v Speaker 2>at the highest degree of our lifetime and growing more

0:08:48.559 --> 0:08:51.920
<v Speaker 2>and in many ways, it's changing the investment business. So

0:08:51.960 --> 0:08:54.480
<v Speaker 2>there are so many of these indices and index driven

0:08:54.559 --> 0:08:58.200
<v Speaker 2>funds that so much of that, and it's impacted the

0:08:58.240 --> 0:09:02.600
<v Speaker 2>liquidity of a lot of the smaller companies. So if

0:09:02.640 --> 0:09:05.439
<v Speaker 2>you look at a typical mid cap stock, it may

0:09:05.480 --> 0:09:08.679
<v Speaker 2>have thirty five forty percent of their shares owned by

0:09:08.760 --> 0:09:12.439
<v Speaker 2>passive investors. And it's happening in the credit markets as well,

0:09:12.800 --> 0:09:15.959
<v Speaker 2>so when you get to individual credits. So that's pushing

0:09:16.080 --> 0:09:19.080
<v Speaker 2>more of the trading into private markets away from some

0:09:19.200 --> 0:09:22.000
<v Speaker 2>of the public markets, and so I think that is

0:09:22.080 --> 0:09:23.200
<v Speaker 2>going to have an impact.

0:09:23.440 --> 0:09:26.199
<v Speaker 3>So the way in which companies raise capital is all

0:09:26.559 --> 0:09:28.240
<v Speaker 3>still evolving.

0:09:27.920 --> 0:09:31.520
<v Speaker 2>Because there's this big private market that's grown a lot

0:09:31.520 --> 0:09:33.000
<v Speaker 2>in the last four or five years.

0:09:33.520 --> 0:09:35.760
<v Speaker 1>Tamashad, awesome to hear from you. Thank you so much

0:09:35.760 --> 0:09:39.240
<v Speaker 1>for being with us. Yes, thank Tavi Shouda of KBW