MidSouth: Best Priced Small-Cap Bank?

10/14/2015 2:25 pm EST

Focus: STOCKS

Doug Hughes

Editor, BankNewsLetter.com

Small bank expert Doug Hughes is bullish on a bank that he considers significantly underpriced by the market, in part due to exposure to oil-industry loans. Here, the editor of Bank Stock Newsletter reviews a favorite Louisiana-based community bank.

Steven Halpern:  Joining us today is banking sector expert, Doug Hughes, editor of Bank Newsletter.  How are you doing today, Doug?  

Doug Hughes:  Great.  How are you, Steve?

Steven Halpern:  Very good.  Thanks for joining us.  Now, you specialize in smaller bank stocks.  How is this part of the banking sector compared to the better known larger-cap banks?  

Doug Hughes:  The smaller ones generally serve more local niche markets where you can really deal with the president or the top guys of the bank directly. A lot of larger banks you can never reach the top people at all so it's very community focused, very good for the economy in that area.

Steven Halpern:  Now are there generally less analysts following these stocks which would give you an opportunity to find value, where, perhaps, at the larger banks there are a lot of people analyzing each of the companies?

Doug Hughes:  Of course, yeah.  Many of the small ones have no coverage or maybe just a handful.  Sometimes they are covered well, but generally the case is, no, they're not followed by many people.

Steven Halpern:  Doug, perhaps you could walk us through some of the metrics that you feel are most important when looking at small bank stocks.

Doug Hughes:  As always, I always think people are the most important, the guys at the top of the bank running it.  A bank, you're buying people.  Second, you're buying location. Are they in a growing market? Very good economic region of the country? Third, but not least, is asset quality. Are they running a good ship?  Making quality loans?

Steven Halpern:  Now one stock you currently favor in this sector is MSL MidSouth Bank Corp. (MSL).  It's a community banking outfit based in Louisiana.  Could you give our listeners some general background on this situation?  

Doug Hughes:  Sure. This bank was started over 30 years ago by Rusty Cloutier.  He's, I guess, honestly the best banker I've ever known.  Very smart guy.  Very charismatic guy.  Runs a terrific bank with over 50 locations down there in Louisiana and Texas.  

They're growing like crazy and the stock has been sold off this year due to the oil prices crashing as they have about 20% of their loans in the oil service field area. With that said, Rusty himself owns over 400,000 shares and insiders own over 24% of the stock.  

A couple caveats here, is a large short position now, a couple hundred thousand shares that's rung up here this year, and in today's world, who knows, maybe it's some hedge funds playing games with it, but the stock yields over 3.25% and to be sure the stock is basically trading at book value-when it would be worth double that as a sale-is quite dangerous in that type of market.  

I mean, oil has already rebounded from the low $40s to around $50. In today's world, if it goes back to just $60 or low $60s, this bank will have no bad loans.  

I guess they're playing it like oil's going to $30 and going to stay there for a while, but this bank has been through this cycle several times, certainly has the wherewithal to withstand it.  They've just had one bad loan in the last quarter of $20 million. They wrote off $6 million of it.  

Again, if oil just goes back to the lower 60s this loan will be performing and that reserve will be erased.  Cash flow here is almost $26 million a quarter which equals over $100 million a year.  

Market cap on the bank is just $133 million.  It's just not making sense at this valuation.  It's a tremendous buy here and it's a liquid name, and again, paying a strong dividend with strong insider ownership and insider buying.  

Steven Halpern:  Many of the stocks that you've recommended in the past have become the subject of takeovers.  Is that a possibility here or do you expect this company to remain independent?

|pagebreak|

Doug Hughes:  Here, honestly, I think it'll remain independent.  He's just really been growing the bank so tremendously the last five years I think he has at least another five years of growth here.  

With that said, he is 68.  Anything is possible in today's world, but again, this guy is a guy that I think would work until his 80s or beyond, one of these true workaholics.  

He's in there every day.  You can reach him on the phone any time so I don't think a sale is possible, but trading at book value if somebody came in with a tremendous offer, which would have to be at least double today's price, it could happen.  

There is actually like six or seven analysts following this company-a lot for a small mid-sized bank-and they all have basically strong buys on it.

Nobody's really going to say, "Hey, this is a strong buy here at $11 and change." But I guess I'm the first because this is about the best priced bank stock I've seen in years, where there's basically no downside and over 100% upside.  

Steven Halpern:  Most people would think that small-cap bank stocks, like many other small-caps, might be more risky. But it sounds from your description that this is something that would even be suitable for a more conservative investor.  

Doug Hughes:  Like I said, you've got a solid dividend with 3.25%, you've got 25% insider ownership.  Again, if oil prices go down and stay at $30 for two years, this bank would have some decent sized write ups and probably have a little bit of trouble. But if oil stays here, or goes higher, the stock could double over basically the next 12 months.  

It could pop two or three points on one night just if it was short covering, to be short a couple hundred thousand shares of a stock like this, with this kind of yield and proven operator. Like I said, he's the best banker there is in the whole country. It's just simply crazy.  It's just a mispriced security.  

You've seen Hess (HES), a big oil company, go from $100 to $48 and back to the $60s in just a couple days.  The market is offering opportunities with oil price all over the place, and the stock market all over the place, and this is just one of those great opportunities.

Steven Halpern:  Again, our guest is community and regional bank stock expert, Doug Hughes. Thank you, Doug, for your time today.

Doug Hughes:  Thank you, Steve.  Have a great day.

Subscribe to Bank Stock Newsletter Here.

Editor's note: Following this interview, Doug Hughes has added the following update to his advice:

"Do to oil prices and gas prices dropping again over the past few weeks sharply we would only add to Midsouth Bank (MSL) at prices below $9.00, as non-performing loans, will be going up for the next year or two. If you don't have a 3-5 year time frame, sell the stock for a small loss.

We had another deal in the bank sector just announced today, with River Valley Bancorp (RIVR) getting taken at 1.5 times book a $500 million bank in Indiana. We would put all funds in takeover targets only in this current market like Fulton Financial (FULT), Astoria Financial (AF) and Midland Capital (MCPH). Midland has by far the least downside risk and most upside; in my view, the stock is worth at least $38 in deal. Insiders own over half of this stock and are in their sixties, which is the right time for a sale. Use limits as always when buying."

Related Articles on STOCKS