The Hamilton Capital Global Bank ETF (HBG) currently has exposure to 27 U.S. banks, spread across 21 different states, representing 42% of the ETF. As we have written previously, we favour a portfolio drawn from the universe of over 200 U.S. mid-cap banks over their larger peers because they: (i) are more rate-sensitive, (ii) are growing earnings faster, and (iii) are merging.
This quarter underscored – again – the benefits of active management. The U.S. banks in HBG recently reported Q4 2016 results, where EPS growth was a very robust 15% year-over-year, for the 3rd consecutive quarter of double-digit earnings increases. The portfolio also generally outperformed expectations, exceeding earnings-per-share (EPS) estimates by 3.5%[1]. Also for the 3rd straight quarter, EPS growth for HBG’s U.S. holdings surpassed the earnings growth of all three main categories of U.S. banks: the universals/mega-caps, large regionals, and small/mid-cap banks[2].
The EPS growth (and outperformance) of HBG’s holdings was driven by multiple factors.
First, revenue growth was supported by a 21% increase in assets (22% increase in loans), which contributed to a 22% year-over-year growth in net interest income (notably, margins were stable). The substantial growth in lending revenue was accompanied by a 13% increase in non-interest income, far outperforming the results from the universals (mega-caps), which saw a 5% decline over the same period. This strong increase in revenue can be attributed to the fact that the banks within HBG tend to be located in higher growth markets, either by MSA(s) or state(s).
Second, HBG’s holdings continued to remove costs from their operations, as efficiency ratios (costs/revenue) decreased by a highly material 260 bps[3]. Put differently, banks in HBG were able to grow revenues much faster than expenses.
Third, credit quality remained relatively benign for the portfolio, with net charge-offs (annualized and as a % of average loans) increasing by only 7 bps[4] to a very-low 18 bps.
Not only are HBG’s holdings growing faster than their peers, they are also more profitable. After adjusting for one-time acquisition costs, the weighted-average ROE for the U.S. positions was ~10.5%, which again, far exceeded the median figures for the universals (8.4%), large regionals (8.6%), and small/mid-caps (8.9%).
Notes
[1] Portfolio and weights as of January 12, 2017. All figures for HBG’s U.S. holdings on a weighted-average basis. Analysis excludes holdings added after the first Q4 earnings report was released. Source for HBG’s EPS figures: Bloomberg.
[2] Source: KBW. Median figures for 221 publicly-traded banks covered by the firm.
[3] Adjusted for one-time acquisition costs.
[4] 7 bps if excluding the decision by one of the holdings to completely exit a business line, for which it charged off the entire loan portfolio. If including the actions of the aforementioned holding, the increase would be 16 bps, leading to a portfolio weighted total of 27 bps.
Note: Comments, charts and opinions offered in this commentary are produced by Hamilton Capital and are for information purposes only. They should not be considered as advice to purchase or to sell mentioned securities. Any information offered is believed to be accurate, but is not guaranteed.