10 Midwest Bank Stocks: Update

NEW YORK ( TheStreet) -- As we continue to track 10 Midwest Bank Stocks selected earlier this year, it's clear that "long-term" remains the overriding theme.

Since we last looked at the group on Aug. 2, half of the names have seen further declines, although that's not a bad short-term track record, considering that the KBW Bank Index ( I:BKX) declined 6% during the same period, to close Friday at 41.82, despite rising 7.5% last week.

Now that most large U.S. bank and thrift holding companies have reported their third-quarter results, it's clear that the industry will be facing serious revenue pressures for some time, with narrowing net interest margins as short-term interest rates remain near zero, while long-term rates continue to decline, and with the Oct. 1 implementation of the Federal Reserve's new rules to limit the interchange fees charged by banks to merchants to process debit card purchases, as required by the Durbin Amendment to the Dodd-Frank Wall Street Reform and Consumer Protection Act, signed into law by President Obama last July.

Large banks' earnings are also pressured by declining releases of loan loss reserves. The 'big four" U.S. banks all saw declining reserve releases during the third quarter.

Growth of commercial and industrial loans was among the positive themes for the third quarter, although loan demand in most categories remained weak. For the fourth quarter and over the next year, expect expense reductions to be a major industry theme.

We originally selected the following 10 Midwest bank stocks in late March, by isolating the 10 regional names trading at the lowest multiples to consensus earnings estimates for 2012. Initially, the forward price-to-earnings ratios for the group ranged from 6.6 to 13.4. In the meantime, nine of the 10 names have seen their consensus 2012 estimates lowered, in the face of Durbin, the narrowing margins and slower-than-expected loan demand.

The Midwest group's forward P/E ratios now range from 7.6 to 14, showing that most of the group is still more highly valued than the "big four" U.S. banks, which face continued headline risk, including a large mortgage settlement with states' attorneys general on the table, coming capital rules from the Federal Reserve, and a regulatory target on the back, in general.

Bank of America's ( BAC) forward price-to-earnings ratio was 7.1, based on Friday's closing price of $7.35 and a consensus 2012 earnings estimate of $1.03, among analysts polled by FactSet. This is the same forward P/E for Bank of America when we originally identified the 10 Midwest bank stock picks based on March 25 market information, however, Bank of America's shares and the consensus 2012 earnings estimate have both declined 45% since then.

For JPMorgan Chase ( JPM), the forward P/E was 7.5, based on Friday's close at $36.69 and the consensus 2012 EPS estimate of $4.92. The shares have declined 20% and the forward EPS estimate has declined 12% since March 25.

Citigroup ( C) had a forward P/E of 7.7, based on a closing price of $34.16 Friday and a 2012 consensus earnings estimate of $4.42. Factoring-in the 1-for-10 reverse split on May 6, Citi's shares have pulled back 23% since March 25, while the forward EPS estimate has declined 17%.

Wells Fargo's ( WFC) forward P/E was 8.4, based on Friday's closing price of $27.08 and consensus 2012 EPS estimate of $3.21. The shares are down 15% since March 25, while the consensus 2012 earnings estimate has been lowered by 10%.

Here are updated looks at the 10 Midwest picks, again in descending order by forward price-to-earnings ratio:

10. First Financial Bancorp

Shares of First Financial Bancorp ( FFBC) of Cincinnati closed at $17.04 Friday, down 5% year-to-date. The shares trade for 14 times the consensus 2012 earnings estimate of $1.22, among analysts polled by FactSet.

Based on the company's regular quarterly payout of 12 cents and its most recently announced variable quarterly dividend of 15 cents, the shares have a dividend yield of 6.34%. The company has a temporary policy in place, to pay out 100% of quarterly earnings, "to provide an enhanced return to our shareholders until capital deployment opportunities arise that provide long-term incremental benefits to shareholder value."

On Sept. 23, First Financial completed its acquisition of 16 Ohio branches from Liberty Savings Bank, FSB, for roughly $22 million. The purchase included "approximately $341 million of total deposits associated with the branches. Additionally, the Bank purchased approximately $124 million of in-market performing loans."

The company also has a deal in place to purchase 22 branches in Indiana from Flagstar Bank, which will bring First Financial's total number of branches to roughly 140.

First Financial had $6.3 billion in total assets as of Sept. 30.

Third-quarter net income was $15.6 million, or 27 cents a share, compared to $16 million, or 27 cents a share, the previous quarter, and $15.6 million, or 27 cents a year earlier. Results for the most recent quarter included $3.4 million in non-recurring acquisition-related expenses.

The third-quarter operating return on average assets (ROA) was 1.02%, according to SNL Financial.

Guggenheim Securities analyst Jeff Davis on Thursday reiterated his neutral rating on the shares, saying "capital remains in very good shape, in our view, in spite of the Liberty deal and the board's July move to pay out 100% of earnings for the time being."

First Financial's Tier 1 risk-based capital ratio was 18.81% as of Sept. 30, which was by far the highest among this group of 10 bank and thrift holding companies.

Out of eight analysts covering First Financial Bancorp, two rate the shares a buy, while the remaining analysts all have neutral ratings.

9. Associated Banc-Corp

Shares of Associated Banc-Corp ( ASBC) of Green Bay, Wis., closed at $11.59 Friday, declining 23% year-to-date. Based on the consensus 2012 EPS estimate of 88 cents among analysts polled by FactSet, the shares have a forward price-to-earnings ratio of 13.2.

The company was included among TheStreet's 10 Banks Seeing Double-Digit Growth in Business Loans, with commercial, agricultural and financial loans increasing 5% quarter-over-quarter and 12% year-over-year, to $3.36 billion, as of Sept. 30.

Third-quarter net income available to common equity was $34 million, or 20 cents a share, increasing from $25.6 million, or 15 cents a share, in the second quarter, and $6.9 million, or 4 cents a share, in the third quarter of 2010. Earnings improved as credit costs declined, with a $4 million provision for loan losses in the third quarter, from $16 million the previous quarter and $60 million a year earlier.

A $26.2 release of loan loss reserves during the third quarter directly boosted earnings.

The third-quarter ROA was 0.76%, according to SNL Financial.

Following Associated Banc-Corp's third-quarter earnings announcement, Sterne Agee analyst Peyton Green reiterated his neutral rating on the shares, saying that while loan growth was "better than expected," net interest income "was less than modeled," as "competitive pressure pushed loan yields lower."

Out of 15 analysts covering Associated Banc-Corp, five rate the shares a buy, nine have neutral ratings, and one analyst recommends selling the shares.

8. FirstMerit Corp.

Shares of FirstMerit ( FMER) of Akron, Ohio, closed at $14.37 Friday, for a year-to-date decline of 25%. The shares trade for 12.6 times the consensus 2012 EPS estimate of $1.14, among analysts polled by FactSet.

Based on a quarterly payout of 16 cents, the shares have a dividend yield of 4.45%.

The company had $14.7 billion in total assets as of Sept. 30, with 200 branches in Ohio, Pennsylvania and Chicago.

Third-quarter net income was $31.7 million, or 29 cents a share, increasing from $29.8 million, or 27 cents a share, in the second quarter, and $29.0 million, or 27 cents a share, in the third quarter of 2010. Earnings performance has been quite consistent over the past year, with ROA for the past five quarters ranging from 0.74% to 0.86% in the most recent quarter.

Ross Demmerle of Hilliard Lyons last Tuesday reiterated his neutral rating for FirstMerit, while lowering his 2012 earnings estimate to $1.13 a share from $1.25, saying that the shares are "fairly valued," and that the company's "asset quality is comparatively better than peers'" but that "Operating revenue fell 1.5% from a year ago."

Four out of 11 analysts covering FirstMerit rate the shares a buy. The remaining analysts all have neutral ratings.

7. TCF Financial Corp.

Shares of TCF Financial ( TCB) of Wayzata, Minn., closed at $11.24 Friday, down 23% year-to-date. The shares trade for 12.2 times the consensus 2012 EPS estimate of 92 cents, among analysts polled by FactSet.

Based on a 5-cent quarterly payout, the shares have a dividend yield of 1.78%.

The company expects a $15 million decline in fourth-quarter revenue from the new limitations on interchange fees as required by the Durbin Amendment. The company "expects to start seeing the results of various mitigation efforts beginning in the first quarter of 2012," according to TCF's third-quarter 10-Q filing, including the purchase of the privately-held Gateway One Lending & Finance, of Anaheim, Calif., which "primarily originates used automobile loans to customers through dealer relationships."

TCF previously announced an agreement with BRP to provide inventory financing for Ski-Doo, Sea-Doo and Can-Am dealers throughout the U.S. and Canada.

Third-quarter net income was $31.7 million, or 20 cents a share, increasing from $29.8 million, or 19 cents a share, in the second quarter, but declining from $36.9 million, or 26 cents a share, in the third quarter of 2010. The year-over-year earnings decline mainly reflected the new regulation curbing checking account overdraft fees that went into effect in August 2009, as well as "lower monthly maintenance fees as more customers qualified for fee waivers."

The third-quarter ROA was 0.69%, according to SNL Financial.

Peyton Green of Sterne Agee on Oct. 20 reiterated his neutral rating for TCF, while lowering his 2012 earnings estimate to 90 cents a share from a dollar, "to reflect modestly negative changes to provision, margin, and noninterest income versus our previous model."

FBR Capital Markets analyst Paul Miller is also neutral on the shares, saying on Oct. 24 that "Although the company has not realized the full impact of the Durbin Amendment, we estimate that it will ultimately cost the company $50M-$60M per year," and that "the company will likely be able to replace some, but not all, of the fees" through its new acquisitions.

Out of 17 analysts covering TCF Financial, nine rate the shares a buy, six have neutral ratings, and two analysts recommend selling the shares.

6. MB Financial

Shares of MB Financial ( MBFI) of Chicago were flat year-to-date, closing at $17.26 Friday. The shares trade for 11.7 times the consensus 2012 EPS estimate of $1.47, among analysts polled by FactSet.

The company had $9.9 billion in total assets as of Sept. 30, with over 70 branches in the Chicago area.

MB Financial owes $196 million in federal bailout funds received through the Troubled Assets Relief Program, or TARP.

Third-quarter net income available to common shareholders was $17.1 million, or 31 cents a share, compared to a loss of $10 million, or 18 cents a share in the second quarter, and a loss of $5.4 million, or 10 cents a share, in the third quarter of 2010.

The third-quarter provision for loan losses was $11.5 million, declining from $61.3 million the previous quarter -- when the company recognized $87 million in charge-offs on the sale of $281.6 million in loans, including $156.3 million in nonperforming loans. In the third quarter of 2010, the provision totaled $65 million.

The third-quarter ROA was 0.80%, according to SNL Financial.

On Oct. 24, FIG Partners analyst Brian Martin reiterated his "Outperform," or "Buy" rating on MB Financial, with a $21 price target, saying that the company's loan "originations are up and the commercial pipeline is increasing," and saying that "tangible Book Value is expected to grow over 10% to $15.55 by 4Q12."

The analyst also said that "to truly end its participation in this credit cycle and reaffirm itself as a market leader, MBFI must repay TARP," which Martin expects to occur late in 2012."

Out of 13 analysts covering MB Financial, four rate the shares a buy, eight have neutral ratings, and one analyst recommends selling the shares.

5. U.S. Bancorp

Shares of U.S. Bancorp ( USB) of Minneapolis closed at $26.03 Friday, down 2% year-to-date. The shares trade for just under 10 times the consensus 2012 EPS estimate of $2.63, among analysts polled by FactSet.

Based on a quarterly payout of 13 cents, the shares have a dividend yield of 1.92%.

The company was also included among TheStreet's 10 Banks Seeing Double-Digit Growth in Business Loans, with average total commercial loans increasing nearly 12%, and average commercial and commercial real estate commitments growing 16.8% year-over-year.

The company reported third-quarter net income of $1.3 billion, or 64 cents a share, improving from earnings of $1.2 billion, or 60 cents a share, in the second quarter, and $908 million, or 45 cents, in the third quarter of 2010.

The third-quarter ROA was a very strong 1.56%, according to SNL Financial, improving for the past four quarters.

The company repurchased 13 million shares during the third quarter.

Sterne Agee analyst Todd Hagerman on Oct. 20 reiterated his neutral rating for U.S. Bancorp, saying that "fundamentals were better than expected, including revenues, expenses, loan growth, and credit quality measures," and that the company continued "to distinguish itself from peers with its diversified earnings stream, modest markets-sensitive revenues, and surprising loan growth."

The challenge for the shares, according to Hagerman, is "the likelihood for the earnings momentum to slow dramatically in 2012 and 2013 against a backdrop of a tepid economic recovery, persistently low interest rates, higher cost of capital, and rapidly normalizing credit."

Out of 25 analysts covering U.S. Bancorp, 15 rate the shares a buy, eight have neutral ratings, and two analysts recommend selling the shares.

4. KeyCorp

Shares of KeyCorp ( KEY) of Cleveland closed at $7.33 Friday, declining 16% year-to-date. The shares trade 9.5 times the consensus 2012 earnings estimate of 77 cents among analysts polled by FactSet.

Based on a quarterly payout of three cents, the shares have a dividend yield of 1.64%.

KeyCorp announced on Monday that it would redeem $331 million of its 6.75% trust preferred securities on Dec. 15.

Third-quarter net income attributable to common shareholders was $212 million, or 22 cents a share, declining from net income to common shareholders of $234 million, or 25 cents a share in the second quarter, but increasing from $178 million, or 20 cents a share, in the third quarter of 2010.

The sequential decline in earnings reflected an increase in losses from discontinued operations to $17 million in the third quarter, from $9 million in the second quarter, as well as a $10 million provision for loan loss reserves. During the second quarter, the company transferred $8 million from reserves. In the third quarter of 2010, the company's provision for loan losses was $94 million.

Despite the change in direction on the provision for loan losses, reserves declined by $241 million during the third quarter, directly boosting bottom-line results.

The third-quarter ROA was 1.07%, according to SNL Financial.

A highlight of the third-quarter results was growth in commercial, financial and agricultural loans to an average balance of $17.4 billion during the third quarter, from $16.9 billion both in the second quarter and a year earlier.

Third-quarter net interest income was $555 million, declining from $570 million the previous quarter and $647 million a year earlier, with the year-over-year decline reflecting "both a decline in earning assets and tighter spread between asset yields and funding costs." The tax-adjusted net interest margin -- the difference between a bank's average yield on loans and investments and its average cost for deposits and wholesale borrowings -- declined to 3.09% as of September 30, narrowing from 3.19% the previous quarter and 3.35% a year earlier.

FBR Capital Markets analyst Paul Miller on Oct. 21 reiterated his "Market Perform" or neutral rating on KeyCorp, with an $8 price target, saying he was "concerned regarding KEY's prospects for core earnings growth as its efficiency ratio remains elevated, net interest rate margins declined more than regional peers, and total loan balances continue to shrink," adding that "on a positive note, KEY has maintained a strong capital base and we expect the company to begin managing capital in the new year."

Out of 22 analysts covering KeyCorp, six rate the shares a buy, 14 have neutral ratings, and two analysts recommend selling the shares.

3. Fifth Third Bancorp

Shares of Fifth Third Bancorp ( FITB) of Cincinnati closed at $12.31 Friday, for a year-to-date decline of 15%. The shares trade for 8.7 times the consensus 2012 EPS estimate of $1.41, among analysts polled by FactSet.

Based on an eight-cent quarterly payout, the shares have a dividend yield of 2.60%.

Third-quarter net income available to common shareholders was $373 million, or 40 cents a share, increasing from $328 million, or 35 cents a share, in the second quarter, and $175 million, or 22 cents a share, in the third quarter of 2010.

A major factor in the earnings improvement was a decline in the provision for loan losses to $87 million in the third quarter from $113 million the previous quarter and $457 million a year earlier. The company released $175 million in loan loss reserves, directly boosting third-quarter earnings.

The third-quarter ROA was 1.35%, according to SNL Financial.

Third-quarter net interest income was $902 million, increasing from $869 million in the second quarter, but declining from $916 million in the third quarter of 2010. The net interest margin rose slightly from 3.62% the previous quarter but was down from 3.70% a year earlier.

FBR Capital Markets analyst Paul Miller on Oct. 21 reiterated his "Outperform" or "Buy" rating for Fifth Third Bancorp, with a $15 price target, saying the company beat third-quarter expectations "from stronger-than expected net interest income, decent loan growth, and strong mortgage banking revenues," but that expectations of the bank's management for lower mortgage banking revenue and lower deposit service charges from the Durbin Amendment rules would "translate into $0.05 pressure to EPS."

Out of 22 analysts covering Fifth Third Bancorp, 14 rate the shares a buy, seven have neutral ratings, and one analyst recommends selling the shares.

2. Huntington Bancshares

Huntington Bancshares of Columbus, Ohio, has seen its stock decline 20% year-t-date, closing Friday at $5.47. The shares trade for nine times the consensus 2012 earnings estimate of 61 cents, among analysts polled by FactSet.

Based on a quarterly payout of four cents, the shares have a dividend yield of 2.93%.

Huntington was also included among TheStreet's 10 Banks Seeing Double-Digit Growth in Business Loans.

Third-quarter net income applicable to common shares was $135.7 million, or 16 cents a share, declining from net income to common shareholders of $138.2 million, or 16 cents a share, in the second quarter, and increasing from $71.5 million, or 10 cents a share, in the third quarter of 2010, when the company was still paying dividends on preferred shares held by the government for assistance received through the Troubled Assets Relief Program, or TARP. Huntington fully repaid TARP in December 2010.

The sequential earnings decline reflected an increase in the provision for loan losses to $43.6 million from $35.8 million in the second quarter, although the provision declined from $119.2 million in the third quarter of 2010. In addition, noninterest expense increased 2% quarter over quarter, which, along with the increased provision, was partially offset by a 1% increase in tax-adjusted revenue.

An interesting development for Huntington during the third-quarter was the resumption of securitization of auto loans, with the company booking a $15 million gain.

The third-quarter ROA was 1.06%, according to SNL Financial.

Third-quarter net interest income totaled $406.5 million, increasing from $403.3 million the previous quarter, but declining from $410 million in the fourth quarter of 2010. Total deposits were up 5% year over year to $43.2 billion as of Sept. 30, while noninterest-bearing demand deposits were up 37% year over year, to $9.5 billion.

Out of 17 analysts covering Huntington, eight rate the shares a buy, eight have neutral ratings, and one analyst recommends selling the shares.

1. Citizens Republic Bancorp

Shares of Citizens Republic Bancorp ( CRBC) of Flint, Mich., closed at $9.14 Friday, rising 49% year-to-date. The shares trade for 7.6 times the consensus 2012 EPS of $1.21, among analysts polled by FactSet.

The company had $9.6 billion in total assets as of Sept. 30, with 219 branches in Michigan, Wisconsin and Ohio.

Citizens Republic owes $300 million in TARP money and has deferred its past seven quarterly dividends to the government. SNL reported on Oct. 6 that the U.S. Treasury had elected Madeleine Champion to the company's board of directors, after previously electing William Fenimore Jr. to the board.

Citizens Republic continues to operate under agreements with state regulators and the Federal Reserve, limiting its ability to return capital to investors and pay dividends. The company's Tier 1 common equity ratio was 6.77% as of Sept. 30, according to SNL Financial.

Third-quarter net income attributable to common shareholders was $27.2 million, or 68 cents a share, improving from $18.5 million, or 46 cents a share, in the second quarter, and a loss of $67.9 million, or $1.725, in the third quarter of 2010.

The main factor in the year-over-year earnings improvement was a decline in the provision for loan losses to $17.5 million in the third quarter, from $17.6 million the previous quarter and $89.6 million a year earlier. A $15.9 million reserve release directly boosted earnings during the third quarter.

The sequential earnings improvement mainly reflected a $4 million decline in noninterest expenses, which was "primarily a result of lower than expected third quarter FDIC premiums, lower salary expense and credit costs," according to the company."

The third-quarter ROA was 1.37%, according to SNL.

Citizens Republic reported a Sept. 30 nonperforming assets ratio of 1.55%, improving from 1.60% the previous quarter and 4.17% a year earlier.

Oppenheimer analyst Terry McEvoy on Friday reiterated his "Outperform," or "Buy" rating for Citizens Republic, with a $12 price target, saying "results this past quarter provide greater confidence to us and the markets that the value of Citizens' deferred-tax asset (~$320M) will over time be included back into capital."

Three out of four analysts covering Citizens Republic Bancorp rate the shares a buy. The remaining analyst has a neutral rating.

-- Philip van Doorn in Jupiter, Fla.

To contact the writer, click here: Philip van Doorn.

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Philip W. van Doorn is a member of TheStreet's banking and finance team, commenting on industry and regulatory trends. He previously served as the senior analyst for TheStreet.com Ratings, responsible for assigning financial strength ratings to banks and savings and loan institutions. Mr. van Doorn previously served as a loan operations officer at Riverside National Bank in Fort Pierce, Fla., and as a credit analyst at the Federal Home Loan Bank of New York, where he monitored banks in New York, New Jersey and Puerto Rico. Mr. van Doorn has additional experience in the mutual fund and computer software industries. He holds a bachelor of science in business administration from Long Island University.

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