Jason Stipp: I'm Jason Stipp with Morningstar, reporting from the Value Investing Congress in New York. I'm here with Jason Stock of M3 Funds. He's looking at the banking sector, and they're still somewhat bearish on the banking sector overall, but they are still finding some opportunities.
Thanks so much for joining me, Jason.
Jason Stock: Thank you.
Stipp: So you said today that overall the banking sector, you're still somewhat negative. What's some of the things behind that, as the market seems to think that the credit crisis is behind us, but what are you seeing out there that's still casting somewhat of a bearish glow there?
Stock: Our main focus right now is the commercial real estate. We think the banks, although they've raised a lot of capital, they haven't raised enough capital to survive the upcoming commercial real estate losses. Vacancy rates are rising significantly and banks are extending out a lot of the problems.
A lot of these loans are maturing between 2009 and 2013. The banks are extending these out another couple of years rather than dealing with the problem. And we do think the regulators are going to start focusing a bit more on commercial real estate loans and requiring that these banks begin to properly reserve for the losses that we see on the horizon.
Stipp: And you mentioned that the commercial real estate delinquency rates are at 4%, but that's probably a low rate. Is that because of these extensions and they're basically just putting off the inevitable in a lot of cases?
Stock: Exactly. We think that that number should be significantly higher but as a lot of these loans are maturing, instead of having it become a problem loan it's being extended out another couple of years, so it's still showing up as a performing loan.
Stipp: It's just becoming tomorrow's problem.
Stipp: Now one of the areas where you guys look is small banks, small community banks. And you talked about how you feel like the small bank is a leverage play on the community that it's located in. What kind of community seems like an attractive base for a bank and where do you guys like to look when you're looking in that small space?
Stock: We like to focus on the demographics of the community. Some examples would be we like communities that have universities or colleges as an anchor. A lot of universities have a lot of health-care jobs because there might be a medical center affiliated with the university.
We like state capitols where there's a fairly stable employment base of government jobs. And we spend a lot of time analyzing commercial and residential real estate, and we like to focus on areas where there wasn't a significant overbuilding and where there wasn't a boom in home values.
Stipp: OK, and you also said that you're finding some opportunities among mutual holding companies, which is a structure that some shareholders might not be familiar with. Can you explain a little bit about some of the benefits of the mutual holding company structure as you're seeing it today?
Stock: Sure. For an investor, we love investing in these companies because it is a totally misunderstood corporate structure. It's basically a mutual bank that's only partially public, and the structure allows management a lot of flexibility to issue more shares later if they need to raise additional capital.
That excess capital, though, allows them to take advantage of all the chaos that's out there right now, so whether it's possibly making acquisitions, repurchasing shares, or just making good loans now that risk has been priced back into the markets.
Stipp: Great. Well, Jason Stock, M3 Funds, thanks so much for joining us today.
Stock: Thank you.