CUBI - Customers Bancorp: Q3 2023 Fuels Positive Momentum

2023-11-03 12:14:06 ET

Summary

• Customers Bancorp is experiencing improving profitability and has seen its stock jump over 500% from its intraday low in March.
• The loan portfolio is declining, but the loan yield is increasing.
• Customers Bancorp has a lower total loans to total deposits ratio compared to peers, indicating a more flexible financial structure.

Over the past few months we have been accustomed to banks that continue to have some problems with profitability, in part because the cost of liabilities has increased too much. There is also no shortage of other banks whose tangible book value per share is declining because of unrealized losses generated by the securities portfolio.

In any case, Customers Bancorp ( CUBI ) is not exhibiting these problems; on the contrary, it seems to be improving quarter by quarter. From the low of $7 per share experienced at the peak of the banking crisis earlier this year, a rise of more than 500% has followed. In short, it would seem that the current complex economic environment is favoring Customers Bancorp rather than disfavoring it. In fact, expectations for Q3 2023 were also beaten:

• Normalized EPS was $2.59, $0.99 more than expected.
• Revenues were $200.18 million, $36.14 million more than expected.

Portfolio loan and investment portfolio

The loan portfolio continues its decline and has reached $13.40 billion. This is a decline of 1.40% from last quarter and 5.60% from last year. The Fed's tight monetary policy is inhibiting the demand for credit and as a result it is more difficult to grow the loan portfolio. According to the company's guidance, the portfolio is expected to remain stable or decline slightly by year-end.

Be that as it may, although declining, this portfolio has an increasing loan yield. In this quarter it reached 7.87%, up by a whopping 104 basis points from the previous quarter.

In any case, even if borrowers find themselves paying high-interest loans, NPLs remain in line with last year's results. So, at least for the time being, there does not seem to be any deterioration in loans.

Relating total loans to total deposits, we can see that this ratio is only 75%: the median for peers is 88%. This means that Customers Bancorp's financial structure is more flexible than that of peers, and the bank can take advantage of more opportunities at its disposal. It could potentially use the excess portion of deposits to lend it out and further increase the net interest margin.

The main reason this ratio is so low is that this bank has ample cash on hand that it has preferred not to invest for the time being. In terms of size it represents 15% of the balance sheet , and there are two reasons why it has not been used:

• The first is that for seasonal reasons in the next quarter there will be a major outflow of student deposits. So, the bank does not want to be unprepared.
• The second is that in the next quarter some wholesale CDs will expire and again the bank has to prepare for the outflow of liquidity.

In short, high liquidity is being maintained for precautionary reasons.

We now come to the securities portfolio, one of the most recurrent problems in the banking sector. The mistake of many managers was to buy a high amount of fixed-rate securities before the Fed raised interest rates, and this generated significant unrealized losses. In particular, it was high duration securities that got the worst of it. In the case of Customers Bancorp, this issue exists but has been better managed than peers.

This image relates the AFS securities between Customers Bancorp and its peers based on two criteria: duration and yield.

As we can see, Customers Bancorp is at the top left, which means that its AFS securities have a very low duration and a high yield. Specifically, the duration is 1.6 years, the shortest among peers, and the average yield is 5.43%, the second highest yield. These two combining characteristics have allowed Customers Bancorp to have fewer realized losses than peers, in fact when related to TCE we can see that they are well below the median.

For Customers Bancorp the ratio is 16% while the median of peers is 25%.

Deposits and profitability

Net interest income reached $200 million and continues to increase due to variable rate exposure in both the loan portfolio and the securities portfolio: compared to the previous quarter there was a 21% increase.

At the same time, the net interest margin also improved greatly, from 3.15% to 3.70% in a single quarter. It would seem that the bottom was reached in Q4 2022, thus reflecting a trend opposite to that of many other regional banks. While for the latter the bottom is expected next quarter or Q1 2024, for Customers Bancorp Q3 2023 represents the third quarter in a row in which there is an improvement. The Q4 2023 net interest margin guidance has been revised upward from the 2.85%-3.05% range to the 3.20%-3.25% range.

Now we come to deposits, one of the most important issues since the Fed raised rates.

Total deposits reached $18.20 billion, an improvement of just over 1% from the previous quarter. The average cost of deposits continues to increase and reached 3.24%. Compared to peers, this is probably the most disappointing result for Customers Bancorp, yet thanks to a high yield on assets it still managed not to shrink the net interest margin.

In terms of insured deposits/total deposits, Customers Bancorp is in the top quartile with a ratio of 78%.

Finally, in terms of available liquidity, this bank ranks second among peers with an available liquidity/uninsured deposits ratio of 239%. After all, we had previously observed how this bank perhaps had far too much available liquidity.

Conclusion

Overall, Q3 2023 was more than positive, recording an improvement in profitability without affecting asset quality. Stagnant growth in the loan portfolio is an issue that is partly offset by the increase in average loan yield.

Tangible book value per share continues to increase and AOCI does not weigh too heavily. According to management's words, although there is no shortage of liquidity, an aggressive buyback is not the priority for the time being. The short to medium-term goal is to increase tangible book value even more.

Finally, in terms of capital ratios, there was a marked improvement over the previous quarter. Specifically, CET1 risk-based capital improved by 100 basis points, and the goal is to bring it to 11.50% in the coming quarters.

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