Short sellers tend to go against the tide, making investments based on a belief that a particular stock is going to tank. Banks are often prime targets, given the cyclical nature of the business, inherent risks involved and external pressure from investors and regulators.
Given the strong runup in financial shares over the past year — the Financial Select Sector Fund (XLF) is up 14% over the past year — clients may be looking to short bank stocks. Advisors can help them by explaining why some banks are bigger targets than others. Reasons can include their growth strategies, M&A appetite and overall risk profile.
Some banks are bigger targets than others for a variety of reasons including their growth strategies, M&A appetite and overall risk profile. FIG Partners and S&P Global Market Intelligence recently conducted a study of publicly traded banks, highlighting 10 institutions with unusually high short-selling activity as of February 28.
For each institution flagged in the study, the short interest exceeded 5% of total outstanding shares at the end of February. The median level of short interest, or the number of shares sold “short” for the more than 125 banks in FIG Partners’ coverage, was 1.24%, which represented a decrease from 2.52% a year earlier.
American Banker recently spoke with Christopher Marinac, director of research at FIG Partners, to understand why certain investors are betting against these banks. Here is a look at those institutions, along with possible reasons for their short interest.
Banc of California
Short interest in the Santa Ana, California, company was an unbelievable 26% of shares outstanding. Still, pessimism about the company makes sense: 2017 was a rocky year in which CEO Steven Sugarman departed abruptly, leaving new management to rightsize operations, improve corporate governance and reposition the balance sheet.
Banc of California’s new three-year plan, which it shared with investors in February, will involve a slow and deliberate turnaround. Meanwhile, the company disclosed in March that it will take a nearly $10 million hit in the first quarter after putting aside funds to cover a case of potential borrower fraud.
On the bright side for the bank, short interest in Banc of California is lower than it was three months ago.
A sign stands above a Zions Bank branch in Orem, Utah, U.S., on Monday, April 19, 2010. Zions Bancorporation, the best-performing stock in the Standard & Poor's 500 this year, reported a smaller loss as loan write-offs declined for the third straight period and profit margins expanded. Photographer: George Frey/Bloomberg
Zions Bancorp in Salt Lake City, remains a popular target of short sellers, with an 11.2% ratio of short interest compared with shares outstanding. While some of the activity could be based on its asset sensitivity in a rising rate environment, Marinac said he believes it has more to do with the stock’s appreciation in recent years.
Zions’ stock, which has largely stayed above $50 a share since November, has more than doubled since early 2016. Zions is among the three banks with the biggest increase in short interest over the last year as well as the past three months. What goes up must come down eventually, the short sellers presume.
New York Community Bancorp
A big reason for short-selling activity at New York Community, led by Joseph Ficalora, seems to be tied to the Westbury, New York, company’s balance sheet. The bank, historically a big multifamily lender, may struggle a bit as interest rates rise. It has a relatively high cost of funds, and its loan-to-deposit ratio stood at 131% at Dec. 31.
Short interest was 8.7% of shares outstanding on Feb. 28.
The company has been intentionally keeping its assets below $50 billion to avoid being labeled a systemically important financial institution. Relief could be coming on that front if lawmakers can agree on a reform bill that would raise the SIFI threshold.
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Serial acquirers are prone to stock slides because investors often react negatively to deal announcements. That could explain why Glacier Bancorp in Kalispell, Montana, made the list. Short interest was equal to roughly 7% of its outstanding shares.
Glacier recently completed the purchase of Inter-Mountain Bancorp in Bozeman, Montana. At $173 million, the acquisition was among the priciest that Glacier has announced in recent years. The deal also helps push Glacier above $10 billion in assets, where it will be subject to mandatory stress testing and caps on interchange fees.
Inter-Mountain was Glacier’s 20th bank acquisition since 2000, or an average of just over a deal each year. To keep up that pace, the company could very well be lining up its next purchase.
Bank of the Ozarks
Bank of the Ozarks has been a popular target of short sellers critical of the company’s reliance on commercial real estate loans; short interest is equal to about 6.4% of outstanding shares. The Little Rock, Arkansas, company continues to add CRE loans despite concerns about loan concentrations and credit issues down the road. The continued expansion comes at a time of dead malls, half-empty office buildings and regulators’ warnings about CRE risk.
CEO George Gleason has repeatedly expressed confidence in the company’s handling of CRE lending, pointing to its underwriting prowess. Bank of the Ozarks has charged off only a small handful of CRE loans over the past decade — and none since 2011.
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Seacoast Banking Corp. of Florida
Seacoast Banking Corp. of Florida in Stuart has drawn the greatest increase in short-sale activity over the last three months, based on the data compiled by FIG Partners.
Its short interest, which is equal to nearly 6% of shares outstanding, could be tied to frustration that the company is determined to remain independent, Marinac said. The theory is that Seacoast shares could slide if many shareholders conclude that management and the board have no interest in finding a buyer anytime soon. In fact, Seacoast bought Palm Beach Community Bank last year.
A pedestrian walks past a First Republic Bank branch in San Francisco, California, U.S., on Friday, March 31, 2017. First Republic Bank is scheduled to release earnings figures on April 13. Photographer: David Paul Morris/Bloomberg
David Paul Morris/Bloomberg
First Republic Bank
The San Francisco bank stubbed its toe in the fourth quarter, significantly missing Wall Street estimates after expenses spiked. The results prompted several analysts to lower their earnings forecasts for 2018.
While much of the added costs were tied to investments and marketing efforts, short sellers are likely hoping First Republic will again fall short of expectations in the first quarter, Marinac said.
The company has the second-highest increase in short interest over the past three months, trailing only Seacoast. At Feb. 28, short interest was equal to about 6% of shares outstanding.
It is easy to think that uncertainty over oil prices is contributing to short interest in the Houston bank. Or perhaps a wait-and-see approach over exposure to last year’s hurricanes.
Marinac points to another reason: The M&A inclinations of CEO David Zalman. Under his leadership, the company developed a reputation as a prolific acquirer, buying eight banks after the financial crisis. Prosperity has been quiet recently; its last deal closed in January 2016.
Again, short sellers like to zero in on banks that they think will take a hit with a highly dilutive deal. At the end of February, short interest was equal to 5.5% of outstanding shares.
Short sellers also pay attention to banks with integration challenges. Sterling Bancorp in Montebello, New York, fits that description after completing its purchase of Astoria Financial in a deal that doubled its size.
Now Sterling CEO Jack Kopnisky must master a more difficult challenge — convincing investors that it can make the most of the $2.2 billion acquisition by turning Astoria's mortgage-centric loan portfolio into one that can generate plenty of commercial credits. That will take time, and there is always a chance that the effort will fall short of expectations.
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CVB Financial’s short interest could also be tied to an acquisition. The company recently agreed to buy Community Bank in Pasadena, California, for $878 million in cash and stock. The deal is easily among the biggest in banking announced so far this year.
It is also expected to take five years to earn back the acquisition’s 11% dilution to CVB’s tangible book value. That period could test the patience of investors, particularly those who believe the company could pursue more deals in the not-so-distant future, Marinac said.
Short interest in CVB was equal to 5.1% of shares outstanding at the end of February.