By Alistair Barr, MarketWatch
SAN FRANCISCO (MarketWatch) — The typical way most analysts recommend to investors to profit from mergers-and-acquisition activity is to look for possible targets before a deal is announced.
But RBC Capital Markets analyst Gerard Cassidy proposed a new way to play the expected boom in bank mergers and acquisitions in coming years — not looking for prospective targets but snapping up acquirers, after they announce a purchase.
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Investors should “buy the buyers” roughly two days after deals are announced, according to a Tuesday note to clients from Cassidy.
“We are in the early stages of significant banking consolidation that will last approximately five years,” Cassidy wrote. “Over this period we expect that the consolidation among the top 20 banks will be dramatic.”
Investors can profit from the trend by buying a basket of bank stocks that may be acquired. However, this may be tricky because it’s not always clear which banks may sell — and if it is clear, the shares have usually climbed already.
Indeed, many bank stocks have rallied in recent quarters in anticipation of deals. Brokerage firm Keefe, Bruyette & Woods has been publishing a list of possible acquisition targets in the sector for at least a year.
Cassidy said Tuesday that buying acquisition targets may still work, partly because acquirers are having to pay bigger premiums as the economy recovers.
The recent acquisition of Milwaukee-based Marshall & Ilsley Corp. by BMO Financial Group /quotes/comstock/13*!bmo/quotes/nls/bmo (BMO 63.25, +0.03, +0.05%) “was the inflection point in this M&A cycle turning it from a ‘buyers’ market to a ‘sellers’ market,” Cassidy wrote.
“However, simply focusing on the targets of prospective deals ignores the potential for value creation for the surviving entity,” the analyst added.
“Given the low current valuations for commercial banks compared to historical averages, we contend that investors can achieve outperformance relative to the bank index by waiting for deals to transpire, then selectively buying the buyers in the days following the acquisition announcement,” Cassidy explained.
“Properly valued M&A transactions done at a reasonable cost to the acquiring institution have long been an effective method for building a banking franchise at a rate of growth otherwise unattainable by organic means,” he added.
In the past three or four months, there have been at least five bank M&A deals unveiled by BMO, Hancock Holding Co. /quotes/comstock/15*!hbhc/quotes/nls/hbhc (HBHC 32.07, -0.08, -0.25%) , Comerica Inc. /quotes/comstock/13*!cma/quotes/nls/cma (CMA 39.14, +0.34, +0.88%) , People’s United Financial /quotes/comstock/15*!pbct/quotes/nls/pbct (PBCT 12.55, -0.01, -0.08%) and Susquehanna Bancshares /quotes/comstock/15*!susq/quotes/nls/susq (SUSQ 9.18, -0.10, -1.08%) .
“Each of these announcements led to stock price declines for the respective acquiring institutions related to investors being unconvinced that the acquisition was priced correctly or was the most efficient use of capital,” Cassidy said.
“Investors should utilize the period of weakness in the acquiring bank stock price in the days following the announcement of an acquisition as a buying opportunity,” the analyst added.
Cassidy analyzed shares of acquiring banks involved in the top 100 deals from 1990 to 2011. These stocks lagged the sector in the first few weeks following announcements of the transactions. But they outperformed over longer periods such as one, two and three years, more than making up for the initial under-performance.
Alistair Barr is a reporter for MarketWatch in San Francisco.
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