What do you make of it?

Sure, thank you for having me on the program.

I would say that a couple of factors are coming into play here.

First is that as we look to revise our earnings estimates or the street revises earning estimates based on this quarter's numbers, the estimate revisions are not going to be as powerful or as positive as we saw in the second quarter when the numbers for the group were just blowout numbers.

So I think that's part of the reason that investors are saying that the numbers were in line, they're slightly better.

but maybe the revisions won't be as dramatic as they were in Q2.

The second part is that the share repurchases, which has been a very strong component of the banking sector, are probably gonna start to be dialed back a bit, primarily due to the strength in lending.

Like, is there some kind of weird trend? magic number that caused the sell-off? Or is it something else and maybe not the simplistic interest rate story that's behind the recent selling in some of them?

I mean, private credit, though, isn't it just banking by another name, extending credit out of an investment fund rather than extending credit out of a bank balance sheet? I mean, why isn't private credit regulated, right, the way banking is regulated? And do you think it ultimately will be regulated the same way?

It is clearly unregulated.

And you're absolutely right.

Private credit is really no different than commercial bank lending.

And the parallel that we see, which is a bit disturbing, is the panic of 1907.

And when you go back to that panic, the trusts back then, they were not commercial banks, but they were direct lenders.

And they weren't regulated as the commercial banks were regulated in that time period.

Can you talk about sort of how that's changed the game or how the business is being run at some of these large investment banks today and how you think that's going to continue to evolve?

And I'm just curious what the cycle investment playbook typically is for a rate hike cycle and what might or might not be different this time.

Thank you for having me on the program, Leslie.

And it's a really good question, obviously, because the Fed has made it very clear that they're moving to fight inflation.

And one of the tools they use, of course, is to raise short term interest rates.

And it's somewhat nuanced.

When you look back over the last five credit tightening cycles, we wrote about this about a week ago.

There's no perfect playbook.

What do you make of that? I know it was tough comps last year, but just in terms of just the key driver of trading, which has been such an upside boost to these earnings numbers we've seen in recent quarters.

Where do you think we are in the banking cycle? And kind of what's your outlook going into kind of the next earnings season and into 2027?

Sure.

It's really interesting.

Most bank stock investors, certainly myself in particular – As a bank investor recommending bank stock ideas to our clients, we always have a worry.

A worry about credit, worry about inverted yield curves.

But what's interesting today is we don't have any worries, and that's my worry.

Because you always have to have a worry, and there aren't any.

Is there any sort of interconnectivity to the larger banks or traditional banking models whereby perhaps that could be one of the things that you may worry about? I'm just curious if you've got any insight into what is kind of percolating there.

Why do you think the reversal happened? Was the concern about expenses? Was it the fact that they didn't raise the full year despite the net interest income beats?

Melissa, you put your thumb right on it.

It was primarily their commentary about expense growth.

They had a very strong first half when it came to their, what they call their efficiency ratio, measuring expenses to revenue.

Particularly in the second quarter it was very good.

But they didn't lower the, uh, ex- uh, efficiency ratio for the full year, which remains around 60%, suggesting expenses could grow faster in the second half of the year, and they pretty much verified that.

And that was the turning point in the stock during the earnings call.

Your thoughts on all of that.

What do you make of the reaction to the banks and probably more specifically to the flattening of the yield curve?

I think, Melissa, you put your thumb on it.

It's the flattening of the yield curve that may have investors a bit concerned.

Because coming into the year, a steepening curve was what many investors were anticipating.

Obviously, we had the conflict start in February and the consequences of the Middle East conflict with the higher oil prices and now maybe higher inflation.

You all have been discussing it just a moment ago.

So that changes the narrative a bit.

Is there more juice left in this squeeze, as they say? Guy, we're

How does that translate into capital return, consolidation, and ultimately the competitive environment across the sector?

The U.S. regulatory environment has changed dramatically under the current administration versus the prior administration.

The regulators have all been replaced with pro-bank regulators.

They're not bureaucrats.

They're folks that have actually worked in the banking industry, and they're taking a much more practical approach to bank regulation.

They're focused on credit quality, capital, and liquidity.

Those are the three stress points in any banking industry, and that's what the regulators want to ensure are very strong in the United States.

Where is lending volume actually coming from today? And how durable is it across regions and asset classes?

How much is there left in the stock run?

run?It's a really good question, Melissa, because it was a really landmark quarter for, um, Citi.

They had record quarterly revenues.

Their markets business, I believe, you know, had over $7 billion in revenue.

It was the best quarter ever.

So there's been a l- a number of things that went right for them, deservedly so.

But to your point, you know, Jane Fraser has done a very good job in turning this company around, and there's still room to run.

Sorry, it's a long question, um, and I'm leading the witness.

Um, you know, how much weight would you put on all of those different elements that the banking system has related to private credit, as well as just what it says about credit quality in general and the health of the balance sheets across, uh, the system?

The health of the balance sheets are very strong.

The capital levels of the US banking industry and liquidity is the best we've seen in decades.

We're not as worried about the private credit exposure to the banks as we were going into 2007 with the subprime crisis or back yet in 1990 with the commercial real estate crisis.

Yes, banks do have some exposure, but it's quite low and it's very manageable.

Does that mean that they're not gonna have maybe some credit losses in lending to BDCs that are owned by the private equity and private credit firms? Possibly that will happen later this year or next year.

But again, we think it's very manageable.

Of course, there's the comment period and so forth, but I'm curious what you make of the potential strategic changes that banks may talk about now that we've seen some of these proposals out in the open, uh, on the quarterly conference calls, what it means for their own M&A, what it means for the types of lending they do and all of that.

The but is for, for now.

now.Right? And we're seeing that in the warehouse specifically, robots are getting great at picking items out of buckets, which is sort of the last frontier in these Amazon warehouses.

So we could end up seeing a pattern where employment spikes because these companies do better, but then they find a way to automate that extra employment, and then it goes down.

And that could ultimately lead to real crises in our economy if we end up automating some of the core jobs that make the economy work.

Um, if this is a buying opportunity, h- why do you feel like the recent sell-off is misplaced? What is the market not understanding about the current bank environment?

Thank you, Leslie, for having me on the program.

And I think, Leslie, this is very similar to what we saw last year.

You might recall, um, last year we had the tariff stories that were going to lead to possibly a recession in 2025, which meant you didn't wanna own bank stocks.

In that context, it's difficult to make the bull case for banks, isn't it? I mean, if you're, if you're o- of the belief that AI is going to displace all these jobs, it's hard to say, "You know, I'm gonna be bullish in banks."

Well, w- time will tell.

Um, it's certainly not something that we're too concerned about over the near term, because I- we haven't seen real evidence of that happening.

Uh-...

And what I'd like to share with investors when we talk to our clients is to look at what the microcomputer did, and Excel spreadsheets, and word processing, and it really advanced the technology in banks and all of the internet applications, digital banking, and there, and thousands of new jobs were created.

Now, certainly, the traditional jobs were lost, no doubt about it.

That will happen with AI.

Is there a reason you see that happening, and what would you do with those?

Here, uh, with Gerard Cassidy on the old days of eighteen thousand banks.

Back then, we had eighteen thousand banks and thrifts when you and I were young men, and today we're down to about forty-three hundred.

So the consolidation that was brought on by national interstate banking under the Clinton administration, when they signed that law, has really led to the consolidation.

As a result, what has happened is that the banks have become more efficient, which has led to much better profitability, while at the same time, their capital levels are meaningfully higher than they were twenty, thirty years ago and, of course, since the financial crisis.

[laughs] In terms of the move today, how, how do you view this, uh, credit card rate cap proposal and the impact on some of the larger banks that have credit card portfolios?

I, I, I think you guys have discussed it well, and Karen pointed out about the legislative part of this.

It, the executive order is not going to force any of the banks to lower their rates to 10%.

It either has to come l- legislatively, like the 2009 Credit Card Act, or it could come through the regulators, where they codify some regulation.

But both of those takes time and, and we don't expect either of them to happen.

So we think that this is a buying opportunity.

It, we think it is done for political purposes.

What, what could go wrong?

But more generally speaking, how do you sort of define the regulatory environment and how favorable is it right now for the banks?

David, you really put your thumb on a critical issue for the banks, which is the regulatory environment has changed dramatically from the prior administration to the current set of regulators.

We've never seen it move this so quickly.

And the biggest change is yet to come, which is the Basel III endgame, which is a big proposal on the capital levels for all the largest banks.

When you look at the proposals that the regulators have brought forth already, they are very constructive and supportive of the banking industry.

And if the Basel III endgame proposal comes in as supportive as what we've seen so far for the other regulations that they've put forth, then you should see profitability for the group to grow, which is very positive for valuations.

What does that mean for the regionals in particular, or the super regionals, which haven't performed as well as some of the bulge bracket or money market groups like the city groups and Goldman Sachs, which have done better than regionals? Do they have their catch up in 26?

Sarah, good point.

Is that right? How are you thinking about credit quality, particularly as we think about the interconnectivity between some of those NDFIs, the non-banking sector, as that continues to become even more interconnected?

Leslie, you're right.

If they were to raise short-term interest rates, that would certainly flatten the yield curve and would take away the benefit of growing net interest income.

And the bank stocks, like many stocks, they discount the future.

So what investors would also take into account is rising short-term interest rates could lead to a recession, which then turns into a credit cycle.

And to your point, Credit today is very resilient.

The de-risking of the American banking industry has been very effective post the financial crisis.

Is there room to run? How much of all of these tailwinds are already priced into the sector right now?

But what are some of the tailwinds for banks that maybe are a little bit under the radar?

There's a couple of things, Frank.

And you put your thumb on it in the capital markets business.

Now, volatility is always good for trading.

And if it's less volatile, maybe the trading numbers come in a little less than expected.

But on the investment banking side, the ECM business, equity capital markets, which was where the IPO business sits, the initial public offerings, We anticipate that the initial public offerings could have a strong first quarter of next year, particularly because of the government shutdown this year in the fourth quarter pushed, I think, a handful or a number of those IPOs into the first quarter.

The advisory business, that's M&A.

Like, what's going to make a big bank want to acquire a smaller bank?

And then I want to hear which names are the winners.

You're right.

The segment this year that has done extremely well are the large money center universal banks and the investment banks.

When you look at the likes of Citigroup or Goldman Sachs, Morgan Stanley, Bank America, all of these companies have done very well.

And this has been driven by the strength in the capital markets.

The regional banks have lagged.

But if the outlook proves to be correct, where we have the Fed cutting another 25 to 50 basis points, you get a steeper yield curve, Long growth accelerates next year.

You know, why do you want lower rates right now?

So, do you think we're at a point now where PE firms are happy enough with valuations where they can exit some of those portfolio investments?

It's been probably one of the biggest hurdles, Joe, has been that the portfolio companies were not being monetized either through the sale of the companies to other PE companies or to companies in the industry in which the portfolio company operates or taking them public through an IPO.

Part of the reason, Joe, this has been the case has been the valuations back in 2021 were so high that after the collapse in the markets in 2022 and into 2023, many of those companies that were valued in the last round of financing in 21, that valuation was not attainable by going public or monetizing it through the sale of the portfolio company.

Now, that has improved.

We're not entirely at the levels that we were at back in the late part of 2021.

But what's happened, and I think what the PE companies are seeing, is that the companies that have gone public, the price performance from the initial price of the public offering, year to date or from the time that they have gone public, in many cases has averaged about 50%.

So what that means is that though you're not receiving the top dollar on the public offering, But you are seeing it show up in the aftermarket.

Do you think that they can get there to the top five?

What do you say?

John, thank you for having me on the program.

And I would say that, you know, based upon what you just reported with Zions, from what we can tell, and as they mentioned, other banks have got illegal actions, this might be the big fraud that has hit some of the banks, like J.P. Morgan, for example.

Tricolor was the big fraud or alleged fraud.

You also have First Brand.

So I don't we don't sense it's any signs yet of real cracks in credit for the banks, because when you look at the overall credit picture with these exceptions, it's been quite resilient.

And everybody on the calls today and yesterday talked about the resiliency in credit quality.

Gerard, what's the main differentiator that investors should use to think about the difference in how these regional banks are going to do?

What have we learned this morning, and how does that inform your view of what we can expect tomorrow?

John, I think what we should expect tomorrow is the fact that, um, the trading results from Morgan Stanley and BankAmerica will likely mirror what you saw today from the big banks, which were very good.

You know, the FICC numbers in particular year over year were strong, and we anticipate that we'll see that for the others.

Also, the investment banking results, uh, as you pointed out already earlier in the show, were also strong, and we should expect that as well for BankofAmerica and Morgan Stanley.

And finally, on BankAmerica, since they've got a real deep dive into the consumer, the consumer numbers we've seen today, whether it was JP Morgan, Citi, or, uh, Wells Fargo, all were resilient, and we would expect BankAmerica's numbers to be resilient in that area as well.

How much do you expect this success to be mirrored in smaller and mid-sized banks that are going to report that might be more leveraged to those middle market clients?

clients?It's going to be interesting, Lisa, because certainly, uh, Wells has got a good read on the middle market of the US.

It's predominantly a US bank, and the regional banks, though, could also benefit from the fact that the capital expenditures that we're anticipating, due to the- the big, uh, beautiful bill that was passed in July, with the depreciation of 100% of those capital (laughs) expenditures in year one, could drive commercial and industrial loan demand.

Do you have a preference?

And it's really the question at hand and it's the one to ask because the money spenders this year, because of what you just mentioned, the deal activity, trading have really outperformed the regionals.

But we think there's likelihood, the likelihood is the regionals could provide the leadership over the next 12 months under the following scenario, where the economy remains healthy, grows, let's call it one and a half to 2%.

The Fed cuts rates another 50 basis points over the next three to six months, and you get a steeper yield curve.

It's been 20 years since the Fed funds rate's been over 3%, and you had a plus 75 basis point yield curve.

And if we have that net interest income, which is where the regionals really excel, you're going to see that grow faster than most people expect.

And then if we get the loan growth to pick up because of a resilient economy, plus the increase in capital expenditures being financed with commercial loans, I think you can find the regionals lead the space in 2026.

I'm just wondering if the first brands bankruptcy and bank exposure, do you think that'll be an issue on the conference call? And to what extent do you think, if at all, it's any kind of a canary in the coal mine?

Why isn't that a concern to you in terms of your belief that they can continue to outperform?

David, it is a higher valuation than we're accustomed to.

But I always go back to the early part of 2018 when we had a cyclical high for the banks.

We can't really use valuations pre-financial crisis because the world has changed for the banks, as you know.

So when you look at the cyclical highs in January of 18, it was 2.2 times tangible.

So I think there's still room up.

But more importantly, the regulatory outlook for this group is the best that I've seen in decades.

But what is going to be the impact on the universe of banks you follow?

So is it the big banks that are also seen traditionally as a little more defensive or is it the regionals that you buy into here?

It's a good question.

You want to own all of the whole group, obviously.

But if you believe that this net interest margin expansion due to the actions by the Fed, meaning they do cut rates 25 to 50 basis points between now and year end and maybe further next year.

You get the steeper curve.

That benefits the regionals more because they generate more revenue from net interest income, which is spreads.

And so a typical regional generates anywhere from 65% to 70% of revenues from spreads, whereas the money centers like JP Morgan, Bank of America, that number is closer to 55%.

What is that going to mean for bank regulations?

What stands out to you about this season so far?

Sorry, I think you summed it up well.

The results were quite good in all of those areas, particularly, as Carl pointed out, the resiliency of the credit quality of the consumer.

I think that's really jumped out to people because a number of people were concerned earlier in the year about that resiliency, and it's now showing up.

Also, we started to see finally a pickup in M&A activity and ECM activity, as evidenced by the results from Goldman Sachs and Morgan Stanley this morning.

It was in the second half of the second quarter.

April and May were tougher periods in the quarter, but it really came on at the end of the quarter, and we're seeing pipelines still remain very robust.

When do you think that it materializes and actually makes a difference for bank results?

Is that kind of playing out? How is the market discounting that these days?

Actually, Paul, it played out extremely well after he was elected in November and the bank stocks were clear outperformers in 2024.

They were also doing very well through the end of February, outperforming the market.

Then, of course, the Trump tariff policies were announced.

The stocks hold off very hard.

But since the first week of April, the bank stocks, not including yesterday's trading action, the bank indices had recovered about 35%, which put them year to date ahead of the S&P 500. again, the bank indices.

So I think what you're seeing is that the Trump trade is still working for the banks.

here, is it by the group here? Is it try to be selective? How are your clients thinking about some of these big banks? Because boy, the earnings over today and yesterday looked pretty solid across the board.