Motley Fool Money - 3 Bank Stocks We Just Bought

Episode Date: March 30, 2023

It helps to know the difference between an investing opportunity and a falling knife.   (0:21) Asit Sharma discusses: - RH (aka, Restoration Hardware) wrapping up a rough fiscal year. - How the retailer's great margins during the pandemic have gotten....less great. - Electronic Arts and Roku joining the list of tech companies laying off employees. (12:40) Jason Moser and Matt Frankel take a closer look at beaten-down bank stocks with strong fundamentals. Companies discussed: RH, ROKU, EA, KRE, SCHW, SOFI, BAC, ALLY Host: Chris Hill Guests: Asit Sharma, Jason Moser, Matt Frankel Producer: Ricky Mulvey Engineers: Dan Boyd, Tim Sparks Learn more about your ad choices. Visit megaphone.fm/adchoices

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I'm Chris Hale, joining me today, Motley Fool Senior Analyst, Asset Sharma. Good to see you. Chris, it's good to see you. Thanks for having me on. Let's start in retail and a rough end to the fiscal year for RH. The company formerly known as Restoration Hardware posted fourth quarter profits in revenue that were lower than Wall Street was expecting. And this is one of those businesses, fairly or unfairly, that I think gets lumped in with

the group that comes under the heading, Pandemic Darlings. Because if you look at a stock chart over the last three years of R.H., there was a great run-up because people were investing in their homes, and R.H. sells high-end furniture. It's been a pretty bumpy and steady trip down. The last year or so, stocked down about 25% or so. But in terms of the results, this just hasn't been a great past 12 months for the business. I agree, Chris. Gary Friedman, CEO, who always delivers very colorful conference calls. Read his letters if you get a chance. It's a very fun writer. He mentioned a lot of factors. that influenced the result. And coming out of the pandemic was one of the big factors.

I mean, RH is still talking about that boom and very honestly telling shareholders, look, we're trying to discern what is maybe some permanent gain out of our pandemic boost and what just isn't going to come back. Again, the other part of their narrative is a kitchen sink narrative. Now, it's a very upscale kitchen sink, right? Because this is RH, But they were talking about the effect of inflation and interest rates and a banking crisis that no one foresaw coming and how all of this played into their results. This is one part of the narrative. The other part, which I'm starting to question just a bit, is this long-term vision

for RH in which they keep expanding. They're expanding now globally with upscale stores, with full-service restaurants. They have more and more of what they call design studios throughout North America. So really bumping up the capital expenditure and making a higher overhead expense hurdle for themselves every quarter, but with that long-term view, that there'll be this luxury leading brand and it's going to have a payoff down the road. So I was just curious, Chris. What about this trajectory?

What do you think? It reminds me of something Emily Flippen talked about last week when she was talking about Chewy, which is a business she studies and is a shareholder of. and part of what Emily talked about was Chewy's plan to expand internationally, how she was kind of skeptical of that. This is not exactly the same type of plan that Chewy is trying to execute. But R.H. strikes me as a good business with a ceiling that maybe is lower than Gary Friedman thinks it is.

I agree with you, and thank you for calling out his commentary. is one of those CEOs who is pretty clear with his communication. So it's something I appreciate, and I think for any investor who's looking to check the box of CEO management teams, what are they projecting? Friedman's a straight shooter, but part of me looks at the long-term chart of R.H. at where the stock is now relative to before the pandemic. And I think, you know, if you take out the pandemic, this is probably about where the stock should be. I mean, this has been a steadily but slowly growing business for a long time. And, you know, I said at the top, fairly or unfairly,

they get lumped in with pandemic darlings. I think it's fair. I don't think it's unfair in our R.H.'s case. I think it's completely fair. True. I like that reasoning. And this also, you know, calls to mind the strategy itself. Will this produce more than, you know, decent returns? I'm not so sure, because R.H. has this idea that they're going to be the arbiter of taste in the home. This is their phrase, not mine. And they also talk about reaching scale in this endeavor. So the issue with that becomes in a world where, boy, the economy, global economy seems ever more fragile. GDP, when you look at it distributed across the globe, is faltering. Some of us, maybe I fit in this category when times get tighter.

I let taste go a little bit to the wayside. When money is flush, yeah, I want to be as tasteful as the next person in building out my house and having small renovations. But this business strategy over the long term, I think depends on a global economy that's humming, where there's increasing disposable income among higher affluent groups of buyers. And those who are coming up that ladder of affluence are striving. And so they see RH as an aspirational brand. What happens in an environment where things are flattening out and people are a lot more cautious with the dollars they're spending on their homes?

Absolutely right. Friedman strikes me as someone who is smart enough to realize that when you are trying to position your business as the arbiter of taste, there's a limited, addressable market. I mean, let's just remove this industry and just go straight to restaurants. If you want to be a high-end restaurant and be an arbiter of literal taste, you can do that. You're never going to have the footprint that McDonald's does. You're just not. So true.

And that is, interestingly enough, factors into their overall margins. That's a hard business to make money. And we understand that, okay, this is sort of a lead-in to buying other goods from R.H. And it's a novel idea. But it brings to mind, Chris, just a bigger picture question that I think investors are going to be asking this year, which is, look, you had great margins during the pandemic. 22% operating margin, 25% operating margin, if you take it on an adjusted basis. And now, operating margin is skating, I believe, towards the mid-low teens is what the company

said in its press release when we were looking at the outlook for the coming quarter. So in that world, how do you sustain all of this taste building? We'll see. We've talked about RH on this show before together. I'd love to come back and let's take a look later this year to see how they're fairing with this game plan. Two more tech companies are announcing layoffs. Art and Roku, both announced they're cutting 6% of their workforce.

Both companies are talking about how they're striving for greater profitability. Obviously, it is tough for the people who are losing their jobs. For shareholders of these two companies, shareholders are probably hoping this works out in the long run, because unlike what we've seen in bigger tech companies with these types of announcements, shares of electronic arts and Roku are not moving higher in any sort of meaningful way on this news. True. I love Chris that you point out that both had a 6% cut to their workforces and their reorganizations and both are pairing down real estate. And I should say too, and it's never

a happy thing to hear that a company has to lay off employees. But I thought I was reading the same 8K press releases. They were so similar. But two very different situations, and perhaps It's not so surprising that the stocks haven't moved that much. Let's just take electronic arts. First, it's about twice the size of Roku buy revenue, but this is a profitable company. It's a company that has a very nice cash flow. It's got some great gaming franchises. So they are in that camp of companies that signaling to shareholders look.

We get it. You want us to operate as leanly as possible. The macro environment is uncertain. So we're trimming to ensure that we keep profits flowing to the bottom line. That cash flow, which you expect, is going to be there. I mean, this is a company that actually pays a dividend as a growing tech company. I think shareholders are like, okay, it's about time. Reading every other company that we own interest in has done the same.

So nothing there that's going to surprise shareholders too much and send the stock through the roof. Roku is a different story. Another great company, as I said, about half the size in terms of revenue. But having a tough time as a business split between hardware and its platform revenue, the advertising market has been soft. They spent a tremendous amount on research and development. So in the last year, we've seen Roku sort of bleeding on the net income side. It's turned cash flow negative.

And maybe shareholders there are saying a bigger restructuring might have made us more excited, but we'll take it. In the case of Electronic Arts, as we get closer to July, which is the date that Microsoft has maintained, will be the closing of the Activision Blizzard deal. The closer we get to July, Asset, the more I feel like more investors and more people in the gaming industry are just kind of holding their breath, waiting to see what happens. If that deal closes or not, it's almost like just, I just. Am I the only one who feels this way? Or are there others out there who are just like, no, this is a pretty big shoe.

And it's going to have ramifications, not just for Activision, Blizzard, and Microsoft, but for other gaming companies as well. Chris, I think you and many other investors are watching this like a cliffhanger video game. I mean, it looked for a time like, yes, there would be some antitrust regulatory exploration, but the deal is going to go through. then things look very dire. The latest indications are maybe the deal will actually pass muster here and in the States, and it goes through. Here we have a big acquisition. There's wide-ranging implications. One is that big tech may still be able to throw its weight around without having to fear big interference on the regulatory sides. It would be a huge win for Microsoft just in that arena. Two, what does it say for the rest of the industry? I don't think this

would be the last company to be acquired by a medium or big tech-sized company. So you're right. The storylines here are growing more intense as July approaches. And it also has some implications for innovation. What does it take in this day and age to start a company that can compete with really well-funded outfits like Activision, which are backed by these deep-pocketed mammoth tech companies? Back in the day, it took just a couple of employees an idea and a good programming skill set. It takes a lot more today. Not to say that viral ideas don't still push startups in front of venture capitalists,

but the pipeline of, I think, video game development, it's a lot more clotted than it used to be in terms of how you can get an idea off the ground and start a growing company. Between this and the next report we get out of RH, there is. Definitely going to be stuff to watch this summer. Asa Sharma, always great talking to you. Thanks for being here. So much fun, Chris. I really appreciate it. Bank stocks, an opportunity for investors or just the beginning of a falling knife. Jason Moser and Matt Franco look at some beaten down banks with strong fundamentals, including three that Matt recently bought. Hey, Matt, it's great to catch up with you again. These last few weeks have been a fascinating stretch for the banking industry. While it feels like maybe the contagion has been somewhat contained, and let's hope that's

the case, there have been some ongoing impacts from this banking crisis that are really worth talking about, I think. So I'm glad we have you here today. I want to start with just this article that you and I were reading the other day. This big trend that we continue to see is money flowing out of the smaller regional banks and into the big banks, right? Consumers are scared, investors are worried, and that's all very understanding. to an extent. But investors also seem to smell opportunity here. Retail investors in particular,

and according to VandaTrak, which is a firm that follows this data, investors have plowed more than $200 million into several regional banks here recently. Now, Matt, we're all for opportunistic investing here, of course. But I wonder, do you think maybe this isn't a little bit hasty? Maybe. And it depends if they're taking calculated risks here or not. if they're just kind of treating it as a feeding frenzy, if you will. It reminds me a lot of the crisis in 08-09. When a lot of stocks started plunging, because there was serious trouble in the business model, not necessarily the individual companies, some ended up being fine.

For example, Sirius XM traded at 9 cents a share at 1 point in 08 because it looked like it was going out of business, and that one turned out to be fine. But then a lot didn't turn out to be fine, and people, like, lost everything. So that's really the caution here is that you want to make sure you're, if you're investing in regional banks right now, there are some bargains. So they're not all going to go out of business. But it's important to spread your money around. If anything, I would use ETFs to get into regional banking. There are some good ones. The KRE is the I Share's regional banking ETF. There are a few good options that can kind of spread your money around.

And so if we're not at the end of this crisis yet, and maybe there's another one or two banks to fail, you're not going to get crushed. But it does kind of feel like a feeding frenzy in the regional banking space the past week or two. Yeah, yeah, it really does. And it's just amazing to see. I mean, these steps that regulators take to instill more confidence in the system and make everybody feel a little bit better. It's like it all has the opposite intended effect, right? It makes people panic even more. They pull their money out of these regional banks even more quickly.

They put it into the big banks. And, you know, at the end of that, I don't know how many people are really running, you know, multiple $250,000 plus deposit accounts, right? It's always worth remembering that FDIC insurance applies whether you're at a big bank, at a regional bank, at a small bank, correct? Well, generally speaking, whenever an investor is told not to panic, that's exactly when they probably should be panicking. Now, I don't want you to worry, Matt, but I have some news.

Well, this is what led to the SVB issue in the first place. It wasn't a bank run until the bank told investors not to panic, where we need to raise capital, but we're okay. And what did investors do? They panicked. Of course. So, yeah, you're right. There are different worlds when it comes to banking.

There's the regionals. There's the big banks, which are completely fine. They're too big to fail. We've been told they're too big to fail. and they have a lot more regulatory oversight, which is a big difference, which under the old too big to fail threshold, SVB would have been in there. Yeah. But that was raised to 250 billion of assets.

SVB was around 200, so they weren't considered a big bank, even though they were a pretty big bank. Yeah. So there are a few different worlds in banking, and regional banks are in kind of a strange spot that they have a lot of money deposited with them. but are under the threshold where they're really put under a microscope. Yeah. Well, speaking of the bigger banks, I mean, let's talk for a minute about one of those bigger banks, I guess it is. I mean, Schwab, right? I think it's a name probably most of us are familiar with either through commercials or the fact that we have some form of account

with them. But I mean, Schwab is a $100 billion market cap. And this bank has gotten crushed during this mess. I mean, it's down 35 percent year to date. Listen, that seems to be a seems a little bit of an overreaction. Why do you think Schwab is getting hit so hard? Well, a lot of people don't even think of Schwab as a bank, right? It's thought of as kind of a brokerage. But they do have bank accounts. They have a pretty big banking platform. The negatives are that just like SVB, Schwab has a lot of unrealized losses in its held to maturity portfolio, like most big banks do right now. About $29 billion in Schwab's case. Their retail deposit bank has $7 trillion in client assets, and a number like that, there's a lot to

can go wrong. And one of the biggest concerns that I think people were missing at first, it's not that Schwab's going to have to have a big run on its bank or anything like that, or it's going to have to sell assets. It's that we could see a lot of retail customers start to exit its bank because of interest rate concerns because Schwab's bank accounts don't pay the three or four percent yields you get from a lot of high-yield savings platforms. They have 0.45% right now in the Schwab banking platform. So, there's, There is a worry that not only could there be a bank run because of this, but because savers want some more yield.

But the positives seem to outweigh the negatives here. Schwab is a well-capitalized institution, very little risk of having to sell that health and maturity portfolio. Most of its deposits are insured, 80 percent, unlike SVB, or 5 percent were insured. And it hasn't seen customers leaving. It's seen people move money around, maybe from a savings account into, say, trade. But it's not seeing customers leave. Well, what about some of the more beaten down banks that are still pretty well insulated

from all of this beyond just these bigger institutions like a Schwab or the two big to fails? I mean, there are smaller banks that are managing their way through this with really, they have no, they're not in any trouble at all. Now, I mean, given their size, you know, I think kind of maybe there's some babies that get thrown out with the bathwater here, so to speak. What are some of the banks, smaller banks here that you feel like are pretty well insulated from all this? Even if their share prices today don't necessarily indicate that. Right. And I'm glad you mentioned that the share prices don't indicate that because I bought three banks in the past couple weeks.

I added to Bank of America. That's the big one. It's really rare you can get Bank of America for less than book value these days. And right now you can. And it's like you said, throw the baby out with the bathwater. That one's doing just fine. But the two smaller ones I bought are one is SOFI, which I've talked about a few times on shows we've done. Sure. Listen to some of these numbers. So the median bank has 30% of their Tier 1 capital as unrealized losses. 30%. SoFi's is 0.26%.

Wow. Their loan portfolio has not declined in value because they have short maturity loans, like student loans. They have personal loans. Not 30-year treasuries that are based on, you know, have a lot of time value. Uninsured deposits. the median bank, I said SVB had 95%. The median bank has 60% of their deposits uninsured. SoFi's is about 8%. And they just rolled out a new technology that allows up to $2 million of FDIC insurance by effectively spreading consumers money out to partner banks and taking

advantage of that $250,000 per bank limit. So SoFi was number two. And number three is Ally Financial, A-L-L-Y. Now, this is not a low-risk bank stock, but it's well-insulated from the current situation. Most of its banking customers are smaller retail customers. Its loan portfolio is mostly short duration, so not getting hit by the held-to-matured issues. It's an auto lender primarily. The biggest concern is a rise in default, not the need to necessarily sell its assets at a loss, but that people are going to have trouble paying their auto loans back, which is a real concern. Understandable, yeah. Right.

But the banks doing a great job of preparing for it. The Ally currently has roughly double its current delinquency rate sitting in reserves preparing for a spike in default. So it's doing a good job of preparing for it. And like I said, it's well insulated from what's going on right now. So those are three I've bought recently, Bank of America, SoFi, and Ally. Very nice. Well, let's leave our listeners here with something actionable, because I love what you were saying

there with those three purchases you've recently made. And I know you follow this space very closely. And we've been able to talk about it for years together. And you certainly taught me a lot in the process. I think that you have plenty to offer here. What is something that we want to give our listeners something they can incorporate into their investing toolbox here to make them better investors? If you're interested in investing in banks, what are some of the things to follow? Metrics that matter, I guess, is what I would call them? What do you feel like the metrics that matter most for investing in banks are today? Well, look for a discount to book value, but take that with a big grain of salt. As I mentioned,

a lot of assets are worth a lot less than banks paid for them. The best metrics to look at right now are, like I said, discount to book, loan growth, whether you're seeing inflows or outflows, that's a big one. You mentioned the big banks are seeing a lot of inflows right now. You want to see that outflows have been manageable at some of these regional institutions, if that's what you're going to get into. If you're seeing a lot of investors, head for the exit, or are not investors depositors. You'll see these institutions announce a need to raise capital, not necessarily to the point like SVB did, but you'll see them say, okay, we need to tap the Fed's discount window a little bit more. We need to raise capital from larger banks. We need to do

things like that. That could be a little red flag that maybe you want to sit on the sidelines for a little bit. We saw a few of the kind of business-focused banks in the regional space do that after the SVB thing. So I personally look for lower exposure to business banking and more exposure to personal banking, because those are the accounts that have a lot of insurance. Those are, you know, people tend to not like to switch their banks very much, unless there's a serious, serious issue. So I look for less exposure to business banking myself, but that's just me.

The big discounts to book value in the sector right now. So that's really what I'm looking for. Well, Matt, some great ideas. Some great things to look out for in the space. Really appreciate you taking the time to join us today. Thanks so much. Yeah, thanks for having me. As always, people on the program may have interest in the stocks they talk about

when the Motley Fool may have formal recommendations for or against. So don't buy ourselves stocks based solely on what you hear. I'm Chris Hill. Thanks for listening. We'll see you tomorrow.