Investing Secrets Over Dinner with a Career Banker
By Dr. Steve Sjuggerud
March 11, 2008
"You can't go wrong in small banks at these prices," Ben told me last night.
Ben's retired now. But he was the CEO of a few smaller banks over his career. Last night, at a party, Ben called them the perfect investment:
"I'm earning 6% dividends in small banks now – better than money in the bank. And as long as a small bank doesn't try to get fancy, it can steadily grow its dividends. High income with growth too... a portfolio of small banks is the perfect investment."
Ben personally made millions of dollars in small banks. The real secret was the price he sold banks for...
Ben's career secret was that he could start a bank (at book value, of course), grow the deposits, and then sell it to a bigger bank at a multiple of book value. Pretty safe money.
Last night, Ben told me he actually got paid two times for the last bank he sold... He he sold the bank at 2.75 times its equity (its book value). Only instead of cash, he accepted stock in the acquiring bank. In a stroke of luck for Ben, the bank that acquired his bank was then bought out for more than two times book value, less than a year later. Since Ben now had that stock, in essence, Ben got paid twice!
Under normal circumstances, you and I can't do what Ben did. But now we can...
Over the last 25 years, we've generally had to pay two to three times book value when we buy a bank stock. But not now... Many small banks are trading at book value, or less.
The good part about the small banks is, they generally stick to their knitting – taking deposits and then making loans. They simply earn a spread... They charge more interest on the loans they make than they pay out as interest on their deposits.
It's simple. As Ben said it's a great business, as long as they "don't try to get too fancy."
Small banks are generally not like the big banks. Big banks do try to get fancy, with derivatives trading, massive leverage, and such.
Right now, with banks selling at around book value, we have a rare opportunity to act like Ben... to buy small banks cheaper than they've been in 25 years. We can collect 6% that will grow over time. And chances are, we'll be able to sell at two times book value someday, when bank stocks return to normal. I don't know when that day will come, but it will.
Right now, a downtrend in financial stocks is in full force. For safety's sake, with new money, it's probably best to wait a bit. We don't know how far down this spiral can go. It could end tomorrow. It could still be around in six months or more.
So there is no hurry.
But someday soon, you'll be able to start your own little mini-fund of small banks... business owned by people like Ben – CEOs running their businesses safely until they're bought out. You'll earn 6% dividends, with growth potential... And eventually, you should double your money as bank values rise from their current historic lows to two times book value or higher.
In the True Wealth portfolio, we hold a fund of small banks called the KBW Regional Banking ETF (KRE). Like I said, we're probably a bit early, but KRE is a great way to own a portfolio of small banks – which will spread your risk – and collect a big dividend while you wait for the uptrend.
Soon enough, the time will be right.
Good investing,
Steve
Editor's note: Steve Sjuggerud is a regular contributor to DailyWealth, a free investment newsletter focused on the world's best contrarian opportunities. We write with a simple belief in mind: You don't have to take big risks to make big money with your investments.
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