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Bank stocks, at least the regional and smaller banks, have come a bit more into favor relative to the S&P 500 as the year has gone on, but the sector still isn’t exactly popular and many stocks have lagged despite better-than-expected earnings performance. Count Hancock Whitney (NASDAQ:HWC) among them, with the shares down about 10% since my last update and down about 3% year-to-date – better than the S&P 500 and smaller banks as a group, but still not exactly a robust performance for shareholders.
Relative to my expectations earlier this year, Hancock has outperformed on its financials, and that’s even with an upward bias to my expectations (in other words, I was more bullish than the Street and saw more room for upside). Yet, investors remain concerned about the impact of higher rates and the upcoming election cycle and the risk of a slowdown (or recession) in 2023. I think the economy will hold up better than expected, and I think Hancock could be an outperformer as investors return to bank stocks. Still, despite an attractive valuation, this isn’t a “get rich quick” idea, and investors will have to be patient on a recovery in sentiment.
Looking at the data releases from the Fed, FDIC, and other industry sources, I don’t see a lot in the numbers that suggests meaningful near-term danger on par with what the market seems to be pricing into the stocks of banks like Hancock.
Loan delinquencies are close to all-time lows overall, and auto and home equity loans are among the only major categories where current delinquency rates are above long-term averages. On top of this, bank credit came out of the last cycle in better-than-expected shape, with quite a few banks now sitting on surplus capital. Corporate/business cash balances are healthy, and many consumers took advantage of the prior period of low rates to refinance debt, leading to low consumer debt service ratios.
Loan growth remains healthy, with the sector seeing low double-digit year-over-year loan growth and around 3% quarter-over-quarter growth in the third quarter (as per H.8 reports), with commercial (C&I) lending leading the growth, but also strong ongoing growth in non-mortgage consumer lending. Rates have likewise come in stronger than initially expected, as the Fed tries to combat inflation, leading to stronger-than-expected rate leverage for banks like Hancock.
Still, I wouldn’t say that everything is perfectly fine. The Conference Board’s CEO Confidence indicator fell for the fifth straight quarter in the third quarter, dropping to 34 and a level consistent with contractionary periods. Moreover, higher consumer prices have become a theme in this election cycle and there are signs of strain on the lower income side of the consumer spectrum.
Specific to Hancock, management was already cautious about the outlook for loan growth in the third quarter, and there could be some upside given healthy ongoing trends in the broader market. What’s more, management has been actively targeting growth opportunities in commercial markets in Texas, Tennessee, and Florida (as have many banks), as well as Louisiana. With a strong skew to C&I lending (around 45% of the book) and not much mortgage lending (closer to 10% of the book), Hancock should be in relatively good shape.
As far as rates go, the Fed has been more aggressive than Hancock management expected, and the bank has outperformed on rate leverage due to its above-average asset sensitivity. While rising deposit betas are a concern across the sector, Hancock is holding up well thus far as it continues to leverage a high-quality, sticky, low-cost deposit base that helps drive a very low cost of deposits.
Fee income declined 4% year-over-year on a core basis in the second quarter, and management has been guiding expectations down as the year has moved along. Fee income has been hurt not only by an industry shift away from overdraft fees and other service charges, but also weaker trends in the mortgage banking industry. I don’t expect much upside here for the foreseeable future, and I do wonder if management may look to use its surplus capital to acquire fee-generating businesses (like expanded trust and wealth management operations).
On the expense side, I previously thought that expense leverage could be a source of upside for Hancock this year and it has, though not quite to the extent that I’d hoped. Incentive compensation has been a driver of higher expenses, but that has been offset by the higher-than-expected revenue growth, so the bank’s sub-55% efficiency ratio in the second quarter is still strong on balance. I don’t think the bank has a lot of levers left to pull here, but I do think management is building credibility for improved long-term efficiency targets.
The bull thesis on Hancock hasn’t changed all that much, and it rests on the bank leveraging its M&A-enhanced operating scale to drive profitable commercial loan growth off of an attractive low-cost deposit base. Hancock is seeing increasing competition for loans in many of its markets – from long-established players like Regions (RF) and Truist (TFC) as well as newcomers – but Hancock has a significant funding advantage relative to many banks, and if deposit betas continue to exceed initial expectations, that funding advantage could become more significant.
As far as growth goes, management continues to target attractive verticals/categories like healthcare and equipment finance, as well as adding proven loan officers on a limited basis to help drive growth in markets like Dallas, Houston, Tampa, and Nashville. Energy lending is more of an unknown for me; Hancock has a better underwriting history here than many other energy lenders, and energy companies are not exactly spoiled for choice when it comes to financing large projects, but I don’t expect management to get all that aggressive here.
The Fed has been more aggressive than I expected this year, and that has helped to drive stronger interest income here, with good expense discipline and credit quality driving better pre-provision and after-tax profits. All told, my 2022 core earnings estimate is now about 14% higher than it was back in February, though some of that is pulling forward growth I expected in 2023 and beyond. I do see a risk of much slower growth in 2023, but I still see Hancock positioned for 5% to 6% long-term core earnings growth. I’d also note that while growth is likely to slow in 2023 on a much tougher 2022 comp, the ROTCE should still be strong.
I value banks like Hancock multiple ways, including long-term discounted core earnings, ROTCE-driven P/TBV, and forward P/E (twelve month). All of these approaches give me a fair value today in the $50s, with the ROTCE-based methodology on the lower end of the range. A 9x multiple on my ’23 EPS estimate can support a $54-plus fair value, and I think 9x is rather conservative given the outlook for rates, loan growth, and operating leverage, so I think the risk of an economic slowdown is already in the share price to some extent.
The worst criticism I have of Hancock Whitney shares at this point, apart from the macro risk of a sharper downturn in the economy, is that this is likely to be a “get rich slowly” type of stock that may bore investors that have become accustomed to bull markets and haven’t really seen a bear market. I won’t argue that Hancock is the best bank out there, but I do think it’s a quality name that is undervalued today and a name to consider for investors who want to find some GARP-type investment options in an undervalued sector.
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Disclosure: I/we have a beneficial long position in the shares of TFC either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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