In early February we attended the KBW Winter Financial Services Symposium in Florida, which was attended by other investors and representatives from U.S. banks and capital markets firms. Of the +70 primarily U.S. mid-cap banks in attendance, only five had assets over $50 bln. There was a clear division in sentiment between company executives, who are not seeing major issues with their operations, and investors, who have witnessed equity values plummet in 2016. With year-to-date declines in the U.S. financials and U.S. regional banks of ~11% and ~12%, respectively, investors were morose in Florida. The meetings and presentations offered a great opportunity to discuss the economic environment, energy prices, and M&A activity.<\/p>\n
Highlights<\/strong><\/p>\n Executives Believe Market Valuations Disconnected from the Economy (Banks and Capital Markets)<\/strong><\/p>\n Most conference participants agreed that economic environment is becoming increasingly challenging, although no executives in attendance believed that the market\u2019s recent pullback was justified. One bank CEO stated that although the U.S. will not have a “stellar” economic growth number this year, the country is still seeing modest growth, and there is a clear disconnect between the markets and actual economic performance (for our views on this topic, see our Insight, Global Growth \u2013 Economists vs. the Markets<\/a>). Another bank executive noted that although this isn\u2019t the worst environment in which they have operated, he stated “we aren\u2019t seeing the good times that the Fed is seeing” (note \u2013 this statement was made prior to the Fed\u2019s recent minutes release).<\/p>\n Representatives from capital markets \/ advisory firms were generally in agreement with these views, although they were slightly more positive. Aside from energy and other commodities firms (and some internet businesses), they are not seeing a big pull-back in business activity. One executive stated that he has not witnessed any leading indicators which would lead him to believe that we are heading towards a recession. He did note though, that there are concerns that volatility in the capital markets could erode confidence to the point where it leads to a recession.<\/p>\n Market Volatility Impacting Level of Advisory Activity (Capital Markets)<\/strong><\/p>\n The increased volatility in the financial markets is generally not conducive to M&A, although the slowdown in announced deal advisory activity is being partially offset by a material increase in restructuring assignments, specifically in the energy and mining sectors (many M&A advisory firms offer restructuring advisory services as a counter-cyclical source of revenues). Executives from advisory firms did stress that restructuring is only active in those areas, noting that other business sectors are performing well, in contrast to the stock market\u2019s interpretation \/ expectations.<\/p>\n One executive commented that he believes that we are in the middle of long “up” cycle in M&A, which he noted typically last 5 to 7 years. When asked about geographic expectations for activity, another representative from the same firm stated that clients in Europe are saying that Southern Europe is in the best shape that it\u2019s been since the crisis, and that he expects deal levels to increase in that region. He offered that he is optimistic M&A activity will increase in Europe when the volatility subsides, citing low oil prices and QE as factors which should help drive further economic growth in that area.<\/p>\n The Return of Private Equity to M&A (Capital Markets\/Advisory)<\/strong><\/p>\n Executives noted that financial sponsors have been less active in deal activity over the past few years given the prevalence of strategic buyers. In this disinflationary environment, strategic buyers have had little top line growth and now have little opportunity for increased operating leverage (as they have already restructured), which has forced companies to use M&A as a tool to grow revenue and earnings. With valuations and volatility where they are, some advisory professionals are expecting a rebound in financial sponsor interest to increase M&A activity. Although the cost of capital for sponsors will now be higher with credit spreads widening, executives from advisory firms expect that this difference will be more than covered by the significant decline in asset prices. They did note though, that it remains to be seen whether or not shareholders will be willing to dispose of assets \/ cede control at these prices.<\/p>\n\n