5 Key Regional Banks: Which Will Outperform?

NEW YORK ( TheStreet) -- Regional banking stocks have been punished in the last few days, as it becomes increasingly evident from the results of Bank of America ( BAC) and other big banks that loan growth will remain muted in the near term, even as asset quality improves.

Regional banks are more dependent on loan growth than the big money center banks as they cannot make up for sluggish loan offtake through higher trading revenues.

Marshall & Ilsey ( MI) and Zions Bancorp ( ZION), among the first regional banks to report earnings, have disappointed with higher-than-expected losses, sparking concerns that the credit recovery at regional and small banks will take longer.

Some of the largest regional banks in the country, including BB&T ( BBT) and SunTrust ( STI), will be announcing their results on Thursday. But analysts do not expect any big surprises in the earnings numbers. Like the other banks that have reported so far, performance would probably continue to be driven by lower provisions for loan losses and reserve releases as delinquencies and net charge offs decline. Loan demand would be weak. Net interest income would likely be under pressure or expand marginally as lower loan balances will offset the expansion in net interest margins.

"I am not looking for any surprises other than the magnitude of improvement in the asset quality side," said Frank Barkocy of Mendon Capital Advisors. In the last couple of quarters, the decline in provisions for loan losses has been higher than expected.

But investor attention appears to have now shifted from asset quality to loan growth. Barkocy says that the market has been negatively concentrating on the prospect of a double-dip, which is pressuring banking stocks that show slow revenue growth despite improvements in operational performance.

According to Terry McEvoy of Oppenheimer & Co, 65% of the regional banks in the country are expected to be profitable in the June quarter, up from 50% in the year-ago quarter. But the market is pricing in slow credit recovery and the decline in lending in June. "Third- and fourth-quarter estimates are likely to come down a bit as credit costs remain a little bit higher and loan growth, a little bit slower," said McEvoy.

Risks associated with commercial real estate portfolios, especially for regional banks in the southeast such as Regions Financial ( RF) and SunTrust remain a concern, although analysts are beginning to see its impact on earnings as manageable.

Indeed, it seems the catalysts for the stocks in the near-term would be driven by factors beyond earnings numbers. Investors should watch out for management discussions on the impact of financial regulatory reform. Regional banks are not as affected as large banks that have proprietary desks and engage in derivative trading. They are likely to be more affected by the consumer-led reform such as new rules that require customers to opt-in for standard overdraft practices and new limits on debit interchange fees payable by merchants to banks.

Any guidance on when TARP money would likely be repaid would be something to watch out for, as it may prompt further capital issuances.

Here is what to expect from key regional bank results and a look at the positive and negative catalysts for these stocks in the near term.

BB&T

Earnings Date: July 22, before the open.

Consensus Estimate: Profit of 34 cents a share on revenues of $2.23 billion

Second Quarter 2009 EPS: Profit of 20 cents a share, in line with estimates.

Stock Performance Since March Quarterly Results: Down 23%.

The stock of BB&T ( BBT) is among the poor performers within regional banks in 2010, with a 3% return year-to-date. Although it has been among the more stable and stronger regional banks during this crisis, it disappointed investors in the first quarter of 2010 when it reported an increase in troubled debt restructurings, mostly related to its commercial and mortgage portfolio; commercial real estate loans account for more than 30% of its loan portfolio.

With a concentration of branches in the Southeast, BB&T has also been weighed down by concerns of the impact of the Gulf oil spill on the local economy and continuing economic weakness in Florida.

"Although we believe it is clear that a moderately U.S. economic recovery is under way, the degree to which that recovery is improving real estate markets, both residential and commercial, seems somewhat uneven, and the Southeast, as one of the hardest hit by the real estate bust, seems to be lagging," Susquehanna Financial noted on initiating coverage on BB&T. "We view this as a risk for BBT, given that 70% of its real estate portfolio is in real estate loans of various forms."

In its earnings preview note, Macquarie Research lowered its estimates for the second half as well as the years running upto 2012 on expectations of lower loan growth, reduced fee income and higher operating expenses. "We expect the focus to remain on credit quality, particularly on the pace of NPA and TDR growth and whether it has slowed on a sustainable basis," Al Savastano wrote in his July 7 report, giving the stock a neutral rating.

Fifth Third Bancorp

Earnings Date: July 22, before the open.

Consensus Estimate: Profit of 2 cents a share on $1.51 billion revenue.

Second Quarter 2009 EPS: Profit of $1.15 a share, against loss estimates of 34 cents.

Stock Performance Since March Quarterly Results: Down 20.3%.

Fifth Third Bancorp ( FITB) reported lower-than-expected losses in the first quarter of 2010, at 9 cents a share. The bank is expected to benefit in the second quarter from improving credit costs and higher net interest margins as the company retires high-cost CDs. The bank has another $2.5 billion worth of high-priced CDs maturing in the next 9 months, according to a JP Morgan June report.

But that would likely be offset by slow growth in loans as competition increases. In his research note, Vivek Juneja notes that loan pricing is weakening sooner and faster than expected and that FITB is seeing competition in loan terms in a few instances.

While Fifth Third reported an improvement in its construction-related loan portfolio in the first quarter, it could still see weakness in commercial real estate. Primarily a mid-western regional bank, acquisitions in the Southeast have left it exposed to commercial and real estate problems of Florida. About 10% of its deposits are in Florida, Barclays Capital notes in its latest research note.

Fifth Third could also see lower fees in the future, impacted by regulatory changes on overdraft that take effect this quarter and debit interchange fees. Barclays Capital expects the regional bank to be among the hardest hit by limits on debit interchange fees, estimating it to affect 2013 earnings estimates of the bank by 9% to 11%.

But probably the biggest headline to watch out for in the near term is Fifth Third's plans to repay $3.4 billion of TARP preferred stock, which would mean it will have to raise fresh capital. Fifth Third has a Tier 1 common ratio of 6.97%. Susquehanna Financial estimates that raising capital at today's market prices would increase shares outstanding by as much as 16%.

Keycorp

Earnings Date: July 22, before the open.

Consensus Estimate: Loss of 11 cents a share on $1.08 billion revenue.

Second Quarter 2009 EPS: Wider than expected loss of 68 cents a share

Stock Performance Since March Quarterly Results:Down about 10%.

Midwestern bank KeyCorp ( KEY) has not reported a profit in over two years, but has been narrowing its losses in recent quarters on the back of improving credit quality.

In the June quarter, it is expected to report a loss of 11 cents a share, on the back of improving net interest margins and loan loss reserve releases.

But the threat of further dilution will likely weigh on the stock, according to Susquehanna Financial's research note. The bank had to raise $1.8 billion last year to meet regulatory requirements on Tier 1 common equity. It has another $2.5 billion in TARP to repay, but raising capital for this in the near term would be difficult, given the significant equity dilution.

Under the new FinReg bill, Trust Preferred Securities or TruPS, which are preferred stock that have the tax advantages of debt but are considered as equity, will not be counted as Tier 1 Capital, beginning 2013. The bank has a high exposure to TruPs at 17% of its equity capital. "Having to replace all or portions of this with common equity capital would weigh significantly weigh on share price," notes analyst Jack Micenko.

SunTrust Bank

Earnings Date: July 22, before the open.

Consensus Estimate:Loss of 34 cents a share on revenues of $1.94 billion.

Second Quarter 2009 EPS: Loss of 41 cents a share, lower than estimates of 52 cents.

Stock Performance Since March Quarterly Results: Down 23%.

SunTrust Bank ( STI) is expected to narrow its losses in the June quarter. But investors will be looking out for guidance on the impact of the Gulf oil spill on the local economy and its impact on the bank's operations.

"SunTrust investors are going to be asking a lot of questions on near-term and long-term impact of the oil spill on real estate market," said McEvoy of Oppenheimer. He expects the bank to take a one-time charge to account for the oil spill impact and expects to see discussions on the health of those markets.

The bank would likely see continued pressure on its construction loan portfolio. In the first quarter, construction loan balances declined 45% from the year-ago period.

Another headwind risk for SunTrust could be the increasing mortgage repurchase costs. Some of that concern had ebbed after the bank reduced its reserves for mortgage repurchases in the first quarter, but it has resurfaced again after it mortgage repurchase costs jumped 140% at Bank of America, according to Barclays Capital.

SunTrust is one of the few large banks yet to repay TARP. But analysts do not believe it will repay the money in the near term.

Regions Financial

Earnings Eate: July 27, before the open.

Consensus Estimate:Loss of 21 cents a share on revenue of $1.6 billion

Second Quarter 2009 EPS: Loss of 27 cents a share, higher than estimates of 22 cents.

Stock Performance Since March Quarterly Results: Down 25%.

Regions Financial ( RF) reported a lower than expected loss of 21 cents a share in the first quarter and said that it expected its non-performing assets and net charge-offs to peak in the second quarter of 2010.

But loan growth will still be a problem area for Regions Financial, which is concentrated in the southeast. Regions has a high exposure to commercial real estate and has about 19% of its deposits in Florida.

"Credit quality guidance is the biggest unknown, in our view, given the unquantifiable impact of the Gulf of Mexico oil spill and potentially slow economic growth," wrote Al Savastano of Macquarie Research in his earnings preview.

Barclays expects Regions Financial to be hit by debit interchange fee limits and expects it to impact 2013 earnings estimates by 8-11%.

Regions Financial is yet to pay $3.5 billion in TARP money, so capital dilution remains a concern that weighs on the stock.

-- Reported by Shanthi Venkataraman in New York.

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