Monthly Archives: July 2016

FHLB…What is it?

The more I dig into community banks, the more I find funny things in the financials that do not exist in non-banking companies. One of those items is FHLB stock. This article will be a quick overview on FHLB stock and what it means when you see FHLB stock in a bank’s balance sheet.


The FHLB or the Federal Home Loan Banks is a cooperative consisting of 11 US government-sponsored banks that provide liquidity to its members. A map of the 11 existing FHLB institutions is shown in the map below…


In 1932, the FHLB was formed in order to provide members with financial products, services and liquidity; in order to help develop and finance community lending across the nation. Members of the FHLB consist of commercial banks, credit unions, savings and loan associations and insurance companies.

Stepping back in time, pre-Great Depression, it was very common to see very short-term mortgages—we’re talking less than five years—carrying variable interest rates and requiring a nasty balloon payment; which usually needed to be refinanced. After the Great Recession rocked the economy, the federal government stepped in, and created long-term, fixed rate and fully amortizing mortgages, through their creation of a financial institution known as the FHLB.

Today, the reason why financial institutions join the FHLB is due to the quick and dependable liquidity through a type of secured loan. The liquidity is funded in a type of discount note, term debt or consolidated obligation.

The FHLB is a type of union for banks. The equity in the FHLB are held by the thousands of members of the FHLB. Interestingly, in order to become a member, a bank must purchase FHLB stock. After purchasing the stock, they will then become members and subsequently receive access to low-cost funding and dividends based upon the ownership they own in the FHLB. The basis of FHLB stock is not for capital gains growth or dividends, but rather to capital advances.

On the balance sheet, FHLB stock is sold at par, accounted for at par and redeemed at par. Furthermore, FHLB stock can only be sold to and from the FHLB or another member in the FHLB. Thus, the FHLB stock really doesn’t have a liquid market other than the members and the FHLB itself.


One regulation put into place that had a long lasting implication on FHLB members was The Financial Institutions Recovery and Reform Act of 1989 or otherwise known as FIRREA. The first implication gave all depository institutions with more than 10% of portfolios in residential mortgages clear access to join the cooperative. This allowed a vast majority of credit unions and commercial banks to join the FHLB. Interestingly, membership increased from 3,200 to 8,000 from 1989 to 2005.

The FIRREA also imposed an income tax on the members of the FHLB. The tax required members to pay 20% of their net earnings in order to cover a portion of the interest on the Resolution Funding Corporation or REFCORP bonds. The REFCORP bonds were initially used to help finance the thrift ‘cleanup’.

For those who don’t know, the REFCROP bonds were issued in order to rescue savings and loan institutions that failed to save during the loan crises. The crises began in the late 70s and lasted through the early 90s. Many speculate that the crises happened because S&L companies increased their risk profile by speculating in commercial real estate and junk bond investing because their deposits were insured by the Federal Savings and Loan Insurance Corporation or FSLIC. Due to the rampant speculation, the FSLIC eventually became an insolvent government institution.

On August 5th, 2011, the FHLB banks were told that they satisfied their obligation to the Resolution Funding Corporation. Instead of paying 20% of net earnings to the Resolution Funding Corp, banks now pay 20% of their net income into its own restricted retained earnings account, until the account equates to one percent of the bank’s outstanding consolidated obligations.


This is just a quick introduction article on FHLB stock. The depth and breadth and analysis of the FHLB could go on and on, deserving the attention of a research report. If you want to learn more about the FHLB I suggest you start here…

The Federal Home Loan Banks in the Housing Finance System


Federal Housing Finance Industry

Harbor Bankshares: The Valuation Doesn’t Make Sense

Ever week I scan through my favorite idea screener on CompleteBankData called the Growing Cheap Bank screener. With this idea generator, I always go straight to the bottom to find the cheapest bank that I can find. Today, the cheapest bank on the screener is Harbor Bankshares Corporation (HRBK).

Harbor Bankshares is an extremely cheap bank that openly begs to question the validity of the valuation. Moreover, I am exceedingly skeptical in regards to an investment the company given the blatant discount as a whole.


Harbor Bankshares is the Hold Co. of the Harbor Bank of Maryland, which is a seven branch bank located in Baltimore, Maryland. The company has assets of $266,014,000, equity capital of $19,229,000 and total loans of $185,391,000.


Valuation doesn’t make sense

One of the biggest share price overhangs in regards to Harbor Bankshares is the company’s ‘dark’ status. The company as a whole stopped filing financials sometime in 2006-2007, leaving shareholders completely in the dark.

Although, the company did file a 2016 proxy statement which states that there are 989,624 shares outstanding. At a share price of $2.95/share, this leaves us with a market cap of $2,919,390. With a market cap of $2,919,390 and total equity capital of $19,229,000, we arrive at a BV of 0.15x.

A BV of 0.15x makes Harbor Bankshares one of the cheapest banks that I have ever found. Conversely, the valuation seems too good to be true and leaves me to be a skeptic at best. In addition, if you look at the Hold Co., there is a significant amount of preferred stock.

If we take into consideration the Hold Co. and its preferred stock of 6,800,000, we get a total equity capital position of $12,429,000. With an equity value of $12,429,000 and a market cap of $2,919,390, we arrive at a TBV of 0.23x; a significant valuation gap.

What we have now is a very cheap bank. However this cheap bank is losing money (on a bottom-line basis), and while seeing its net interest income shrink in the past few years. Furthermore, the company has negative ROE and ROA ratios and a sky-high efficiency ratio of 114.45.


Harbor Bankshares appears to be an extremely cheap company, trading at a basement level valuation. On the flipside, the company is dark and the business is losing money on a bottom-line basis. However, it begs to ask; what could go wrong at this point to justify the valuation?

Nick Bodnar

Recent Activity In The Banking Industry: M&As, Branch Openings And Buybacks

  • There has been a significant amount of M&A activity in the banking industry for the month of June; public and private.
  • A handful of banks continue of open new branches and grow their deposit base.
  • It is not uncommon to see significant repurchase programs in an undervalued industry.
  • The banking industry is an unfollowed sector, yet has a significant amount of actionable ideas presenting themselves to investors every month.

When I first started investing, I followed and invested in some of the most popular stocks: Apple (NASDAQ:AAPL), Exxon Mobil (NYSE:XOM) and Waste Management (NYSE:WM) to name a few. My research style was easy. All I had to do was pull up the recent 100 or so articles written about those companies and boom, no independent research was needed.

The entirety of this article can be found at Seeking Alpha.

Should You Invest In Community Banks?

  • Community banks are boring and very unexciting.
  • The community banking space has lack of investor attention, leaving some of these banks trading for low multiples.
  • The lack of competition in the community banking space should be compelling for the investor in search of alpha.

When I first started dabbling in the investment world, I always avoided banks. The reason was simple, banks just seemed too hard to value and understand. Furthermore, all of the investors that I talked to wholly avoided banks for the same reason.

There was one exception. I found out a local bank that I had been banking at my whole life was a public company; Independent Bank Corporation (NASDAQ:IBCP). After doing very little due diligence, I proceeded to buy the stock, making a quick return in a very short time.

The entirety of the article can be found at Seeking Alpha.

What Is The Quickest Way To Find A Bank To Invest In?

  • Finding a bank to invest in seems like a very time-consuming process. News flash: it doesn’t have to be.
  • A quick look at the loan book, historical trends, share structure, and whether the valuation is rational, can all help to determine if a bank deserves more research.
  • Bank investing is not as hard as it seems to be.

Have you always been interested in banks but haven’t had the time to fully understand the business model and where to start your research process? I know I have fallen into this camp more than a few times.

What is interesting is that finding an investment research candidate in the banking space is not that hard and does not need to be a timely process. Furthermore, there are a few items that an investor can initially look at which will help decide if further research is necessary. A few areas that have been helpful for me in terms of “weeding out the bad candidates” is: historical trends, share structure, the quality of the loan book and if valuation is rational.

The entirety of the article can be found at Seeking Alpha.

Ojai Community Bank- A Small Community Bank With Attractive Growth Rates

Ojai Community Bank (OJCB) is a three branch community bank located in Ventura, California. The bank is locally owned and operated as a holding company that was formed in September of 2013.

Investment Thesis

OJCB is an undervalued community bank with attractive growth rates. With the company sitting near a 52-week low, growth potential and real inclination for industry wide consolidation, in short, the bank makes for a compelling investment thesis.

Growth Rates Should not be ignored

I think one of the main reasons why investors ignore community banks is due to the preconceived notion that banks slug along with low to no growth rates. What is interesting is that community banks have the potential to be growth machines, just like any other company.

OJCB is a great example of a fast growing bank with real top and bottom-line potential. In the most recent fiscal year, OJCB’s net interest income grew from $5,640 million to $7,426 million, or a 31.66% increase YOY. Furthermore, in the most recent quarter, net interest income grew 5.43% QoQ and 33.61% YOY. On an annualized three, five and ten year basis, OJCB’s net interest income grew 17.16%, 9.34% and 15.88%, respectively.

The bank has had good bottom-line expansion as well. For an example, in the past fiscal year, net income grew from $492K to $1,126 million, or a 128.86% increase YOY. Furthermore, in the most recent quarter, net income grew 56.56% YOY. Finally, on an annualized basis in the past three (uses pretax income given deferred tax asset utilization), five and ten years, net income grew at a 34.22%, 231% and 28.60%, respectively.

The reason for the top and bottom-line improvements are derived from the increase in loan and asset growth. In the past year, total assets grew 27.79% YOY. Additionally, in the most recent quarter total assets grew 4.17% QoQ and 23.29% YOY. Finally, in the past three, five and ten years, total assets have grown at an annualized rate of 16.37%, 11.32% and 19.17%, respectively.

The biggest derivative in regards to total asset growth is due to the bank’s overall loan growth. For an example, in the past year, total loan growth grew 37.53% YOY. In addition, in the most recent quarter, total loan growth grew at a 3.76% rate QoQ and 32.38% rate YOY. Finally, as I have done before, total loan growth in the past three, five and ten years, on an annualized basis, has grown at a 33.62%, 15.79% and 24.90% rates, respectively.

What is really interesting is that OJCB has grown its loan book without taking on any extra risk or toxic loans…

non current loans

Source: CompleteBankData

With no loans past due over 30 days, in the most recent quarter, this is strong evidence that the banks has experienced underwriters and valuable credit management.

Although, the bank did see deposits decline from $178 million to $174 million in the most recent quarter. Declining deposits are never a good sign, and could be the reason for the weak price action lately. However, investors should remember that the Q1 of the calendar year is typically a weak time for banks. Many companies usually hold off equipment and inventory purchases until after year-end, which thus, makes them replenish inventory and deplete deposits in Q1. Investors should look at the bigger picture and see that deposits grew 13% YOY.

Going forward, there should be continual bottom-line improvements from the result of the movement of their Ventura Division branch. On April 11th, 2016, the bank moved its Ventura Division to the heart of Downtown Ventura. This location not only has very high visibility and growth potential, but also will consolidate administrative and bank office personnel, which will lead to labor efficiencies, lower G&A expenses and more money flowing to the bottom-line.

The final item I would like to touch on before we move to the valuation is the consolidation in the industry. The banking industry is going through a wave of M&A’s.


Source: CompleteBankData Home

Given that OJCB is in the heart of Ventura County, which in fact is a fast growing community, well, that makes for a compelling potential M&A case. Likewise, OJCB is a fast growing bank that is trading significantly below TBV. Based upon the lack of takeover provisions, located in a growing demographic, trading below TBV and has great organic growth, OJCB may make for a takeover target down the road.

I would like to leave off with a statement David Brubaker, the CEO stated in the most recent press release…

“We are seeing excellent opportunities with the recent mergers, buyouts and acquisitions locally, and our continued presence as the strongest local community bank is highly significant in this market. Local people like local banking. Very soon, we will be the only community bank headquartered in Ventura County.”

Valuation and Price Target

OJCB is undervalued on an absolute and relative basis.


Based upon the relative comparison in profitability metrics with OJCB’s comps, the question begs to be asked; why is OJCB selling significantly below its local peers? In all reality, I am not sure I know the answer to that question. However, I do know that OJCB is much cheaper than its peers, it has higher profitability metrics and it’s the only one who pays a solid dividend (3.21% in the past year).

price target

Based upon the relative comps, my price target for OJCB is between $8.44-12.50/share, with an average upside potential of 81.15% or a price target of $10.69/share. Given the high growth rates, decent profitability, good demographics and excellent loan book, OJCB should continue to grow at double digit rates, thus, eventually experiencing mean reversion. In addition, the office move to the heart of downtown Ventura or continual consolidation in the industry may be underlying catalysts this company needs to trade at fair value.


Any unfavorable shift in interest rates could harm the company. Additionally, given that OJCB has a good chunk of assets in fixed income based securities, an unfavorable shift in interest rates could do considerable damage.

If the company experiences a reversion in credit quality they may post high loss provisions.

Increased regulations will hinder the bottom-line and increase fixed costs.


The price target of $10.69/share is found by applying the average peer P/TBV and P/E and taking the average of the two sums. An investment in OJCB may only be for the investors managing a small sum of money and who can handle the lower end of the liquidity spectrum. Furthermore, due to regulations and the low market cap, the most an investor can buy into this company is 10% of the shares outstanding or ~$1.3 million; based upon the current market cap. On the flipside, if you don’t mind the liquidity issue and you are not managing a large sum of money, OJCB has real potential for alpha generation.

Nick Bodnar