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Quality, scale matter most in banking sector: Portfolio manager

During Federal Reserve Chair Jerome Powell's latest press conference, he was bullish on the banking industry despite the prevailing high interest rate environment. To discuss their outlook on the banking sector, Zacks Investment Management Client Portfolio Manager Brian Mulberry and Whalen Global Advisors Chairman Chris Whalen join Market Domination.

Mulberry notes that there hasn't been "another wave of bank failures," attributing previous failures to poor management and "overexposure to bad assets." However, he acknowledges that banks have rebounded, gained more liquidity, and strengthened their structures. Looking ahead, Mulberry emphasizes that quality and scale "will matter the most" for banks moving forward.

On the other hand, Whalen advises looking at "the banks that actually perform well." Whalen expresses skepticism about the commercial banking sector's ability to achieve a soft landing scenario under the current high interest rate environment, citing "a horrific destruction of value." However, he suggests that the consumer side of banking remains relatively resilient.

For more expert insight and the latest market action, click here to watch this full episode of Market Domination.

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This post was written by Angel Smith

Video transcript

With only one rate cut projected from the FO MC in the year ahead.

We're taking a look at the risks higher for longer rates posed to banks and which names are best positioned in our investor playbook.

And joining me now Chris Whalen Whalen Global advisors, chairman and Brian Mulberry Zach, investment Management, client portfolio manager guys, welcome both to the show.

Thank you for being here and, and Brian, I'll, I'll start with you.

So uh Jay Powell speaking o on the banking system likes what he sees Brian Solid strong.

He says, well, capitalized seems to be in good shape.

Is that how you see it, Brian?

Well, I think evidence backing up that statement is that we haven't had another wave of bank failures.

I think what you saw were poorly managed banks that were over exposed to bad assets, get punished.

And since then, we've seen the banking community kind of, you know, rally to the point where we've seen lots of liquidity good.

I think structure and I think scale is going to matter the most for the banks to be successful in this higher rate environment.

You have to have a bit of a diversity to the streams of revenue that you generate.

So I think there are really high quality names out there that doesn't mean there isn't distress somewhere in the system, but it, it, there are definitely good opportunities out there that you can find.

Um Chris, it's Julie here, good to see you.

So when you look at these areas of stress within the system, what do you think investors need to be paying attention to and sort of how they should be screening or what criteria they should be looking for?

Uh If they're considering investing in banks, well, you have to look at the banks that actually perform well, which is why we created that index.

I I showed you earlier.

Um The way I look at it is the commercial side of the equation in the US economy is gonna crash land.

There is no soft landing here.

It is a horrific uh destruction of value, but it's largely behind closed doors.

These are institutional markets.

You're only gonna hear about a few of the bigger default events and the rest of it's gonna be restructured in private.

So you may know we have this private credit trade that's very topical lately.

A lot of that exposure is being sold to retail investors as we speak.

But you know, the consumer side is still ok if you look at banks uh net defaults on residential mortgages, all you know, large prime mortgages that they own are zero.

Uh in fact, loss given default is zero compared to 100% for multifamily assets owned by banks.

So we had this dichotomy between consumer and commercial that I think will disappear by next year.

Ok.

So Brian back to you, you know, Chris, they're talking about what he describes this kind of di dichotomy.

We're seeing com commercial and consumer is that how you're seeing it, Brian?

Well, again, quality and, and scale are the two biggest things that we're looking at when we look at some of the bigger banks and their exposure to commercial real estate as a percentage of their total loan portfolio.

JP Morgan, you know, has 1.4 trillion of a loan portfolio, but only 12% of that is exposed to commercial real estate.

Citibank only has 4% of its nearly trillion dollar port.

So there are definitely some lenders out there that have substantially higher rates like New York Community Bank is one of those that has about 54%.

And so managing that exposure, looking at the ability to offset those potential defaults and losses is gonna be a really big thing in the next couple of quarters.

And I think we're gonna learn a lot more about that in the next 6 to 12 months as well.