Strategist: ‘I would avoid’ every regional bank amid Silicon Valley Bank fallout

CFRA Research Director of Equity Research Ken Leon and Portfolio Wealth Advisors President-CIO Lee Munson discuss the failure of Silicon Valley Bank to raise new capital and contemplate the effects this may have on regional banks.

Video Transcript

DAVE BRIGGS: A big issue here for us. Let's break it all down, the risk, what it means for investors. What we have with us, Ken Leon, CFRA Research director of equity research as well as Lee Munson, Portfolio Wealth Advisors president and CIO. Gentleman, good to see you.

Earlier today, Treasury Secretary Janet Yellen said she's monitoring, quote, "a few banks." Listen.

JANET YELLEN: There are recent developments that concern a few banks that I'm monitoring very carefully. And when banks experience financial losses, it is and should be a matter of concern.

DAVE BRIGGS: Indeed a matter of concern. Ken, what is the collateral damage here?

KEN LEON: Well, it's not going to be systemic damage as much as sentiment for the financial sector and banks. We're seeing that in bank stocks today. Liquidity risk is really what's front and center. And since the financial crisis, what's in place, particularly for the largest banks, is diversification with their source of funds, their deposits, how they manage that. And the likelihood is that maybe the Fed this weekend with Janet Yellen is going to be working for a buyer-- a potential buyer for SVB Financial. That's what we think.

SEANA SMITH: Lee, what do you think when you take a look at the losses here, especially what's happening in some of the regional banks? First Republic, Western Alliance Bancorp, PacWest among the worst performers in that group today. Is there a risk to some of those smaller players?

LEE MUNSON: Yes. Did you see Janet Yellen's eyes in that clip? Did you see how they got really wide eyed? This is a big deal. Remember, everything counts in large amounts, as Depeche Mode said. We've got banks in Silicon Valley, and don't forget biotech. That's a huge thing that we don't really talk about, but you've got 93% of the demand deposits over at Silicon Valley Bank were uninsured. You kind of wonder if the tech bros understand the idea of treasury management, which is when your deposit isn't insured, that's why you put it in Treasurys, and sometimes historically we got less interest.

So I think that the regional banks over the last few years, regulators have been hands off. They said, let them innovate. Let them try to promote private equity since that's what all the pension firms are counting on for their underfunded pensions.

And so I think that if you want to play this stuff, I would play the sell-off in the major banks. I mean, come on, you can get Bank of America at one times book value. You buy big banks at one times book and you sell them at two times book. So that's a better related trade.

The second related trade is go look at mortgage rates. I've been into mortgage rates in and out since COVID. Those got smashed up today, and I think that's a related trade that can do well.

But remember this. These regional banks did not have the handcuffs that the major money-center banks have had since the Great Financial Crisis. When there's smoke, there's going to be fire. So I don't think people should necessarily be bottom fishing. I think none of us here are smart enough to really figure out what bank is going to survive or not, and I think that, you know, if you're looking at the debt, that is a game for experienced distressed-bond investors. You know, let some guy like Howard Marks figure that out.

But I'll tell you, there have been so much political contributions by Silicon Valley. We're going to see if that money is going to pay off because if we see Sunday night the government come in and say, we've got to help this out or we're going to have a cascading problem in private equity, then you know that giving to candidates who are in charge could be a good investment.

DAVE BRIGGS: Ken, I know he had with the Depeche Mode reference there. I know you had them on your Munson bingo card. But what's your reaction to his thoughts on the regional banks and the regulation as we look in the rear-view mirror?

KEN LEON: Well, it's all going to depend on scale and size and how aggressive they might have been with the book. You know, ideally, you know, when you're looking at where you put deposits to work and it's not loans, it's Treasurys. You know, so I think the concentration risk here, as noted, is industry specific, and trying to have your foot to the pedal for Silicon Valley or venture-capital health care.

Again, the larger banks or the regional banks are likely to take a step back and think about where they're putting deposits going forward. This might have a negative impact on the mortgage-backed security market as the Fed is doing quantitative tightening of about $35 billion down on its balance sheet every month. What that means is possibly some of the indirect results of this is higher mortgage rates with less liquidity in the MBS market because banks still are protected by the accounting rule is that they have a liquidity and deposits, which are 20% greater than the industry's exposure to these investments in Treasurys or mortgage-backed securities. They can keep them as unrealized losses, as noted in their 10-K reports.

But if you ride that road, then the question is going forward probably they're not going to be doing that or putting more into those categories. It will be very interesting to see how that plays out.

SEANA SMITH: Lee, I know you're saying in terms of where you're seeing opportunity right now, you would recommend buying a Bank of America, that they look attractive at current valuations. When it comes to what you should avoid specifically within the regional banks, what is at the top of that list?

LEE MUNSON: Every single regional bank I would avoid. We don't know what the full extent of demand deposits, which are a much larger part of regional banks' liquidity, are going to be flying out, not just because of Silicon Valley-- this was somewhat of a slow-burner issue that just came to a head this week-- but also because you're looking at your local credit union. You're looking at your small bank, and you're saying, why am I getting 2 and 1/2%? Why don't I yank that out, throw it in my brokerage account, and buy some six-month Treasurys getting 4 and 1/2% or better?

That is what the problem is, and we don't know-- the smartest people in the room do not know how much effect that's going to be over the next six months, especially when the Fed has made it clear we're going to keep on it and we're going to keep raising short-term interest rates. I've got clients who are sending me a lot of money, not necessarily to put it in the market but just say can you just put this in a short-term Treasury because I'm not getting anything at my small local bank?

That's what the concern is, and I think when we talk about contagion, that's what it's about. People are using bank-- you know, I've got a Bank of America account, just for full disclosure. I'm not going to pull $100,000 grand out of it and put it in a six-month Treasury because there's other reasons why you use a big bank. But the smaller stuff where you have the little passbook savings accounts-- remember, this happened in the late '70s. It's going to happen again. It's going to happen right now.

But I agree with Ken. Listen to Ken. He knows what he's talking about. This is not going to be a full-blown disaster. It's a regional bank. So just stay out of the group. Find something else to trade.

DAVE BRIGGS: Your reactions to that, Ken? And big banks, Seana mentioned, saw $50 billion trimmed off their market cap on Thursday alone. Any further exposure for them?

KEN LEON: Yeah, so the blanket statement is if you had $100 billion or more in assets, your deposits were safe. It was a good mix of consumer or small business. But SVB Financial was $216 billion. If you read the FDIC release today, press release, the caveat is for those account holders that have more than $250,000, that's not insured. So that's step number one.

Step two, take a look at the banks for investing. Where they have diversified deposit mix, they're going to lose a little bit on spread because they're shifting from noninterest to interest-bearing deposits or CDs. But it's a good time to really look more specific, and that's why CFRA Research is a good source for you to look at.

SEANA SMITH: Lee, let's talk about what this could mean here for the Fed. Lots of talk about 25 or 50 basis points at the next meeting. Does this make it more likely that the Fed's going to go 25?

LEE MUNSON: I think it is. You know, I never really bought into this whole 50-basis-point thing. I just think that that was just, you know, everybody's just getting upset. I think there was a delayed reaction a couple of weeks ago when you saw the 10-year Treasury hit 4%, and then nobody panicked. The markets didn't collapse. And even I was a little bit like, is everybody on break, spring break?

But I think that idea of 50, I don't-- I think that was just sort of an imagined thing. That idea got away. So I think you're going to see 25 now. I think in the next meeting in a few months you're going to see another 25, and that's it. I don't think that right now they're going to really get too aggressive.

But what do I know? All I do is listen to what the people in charge say, and they are gearing towards a 25-basis-point hike.

SEANA SMITH: That's what we all do, Lee. We all listen to the people that are in charge. Lee Munson, Ken Leon, thanks so much for joining us.