The Long and Short
Weighing risks at Comerica and Zions
Dan Bruzzo, CFA | March 24, 2023
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.
Two investment grade lenders that have seen tremendous volatility—and likely significant deposit erosion—since the initial start of the banking flare-up are Comerica Inc (A3*-/BBB+/A-) and Zions Bancorporation (ZION: Baa1*-/BBB+/BBB+). Both banks now trade at distressed levels relative to their regional banking peers. But a look at some of the risks that contributed to SIVB and SBNY failures can help put CMA and ZION in context. It appears investors are well-compensated for the risks in these credits and should consider increasing allocation or establishing a position at these unprecedented valuations.
The domestic banking crisis—or perhaps more accurately the banking flare-up—has reached a bit of an impasse. After the collapse SVB Financial (SIVB) and Signature Bank (SBNY), the next layer of “at-risk” banks are contemplating their options, while the market weighs the likelihood of more bank failures. Under the close watch of regulators banks like First Republic (FRC), PacWest (PACW) and Western Alliance (WAL) have been pursuing various solutions to avoid similar fates to SIVB and SBNY. Those include a deposit injection of $30 billion at FRC from 11 larger peer banks, which later was altered to a pure capital injection to help fund any prospective shortfall. PACW tapped roughly $15 billion in government funding options this week plus a $1.4 billion private investment from Atlas SP Partners.
Comerica’s on-the-run 10-year senior unsecured notes, the CMA 5.332% ‘29s, are still trading on a spread basis and currently indicated in a context of +420/410, or about an $85 dollar price and a yield of approximately 7.6%. Zions Bancorp’s subordinated bank note, the ZION 3.25% ‘29s, are indicated in a dollar price range of $65.00/67.50, which works out to a yield north of 10% on either the bid or ask basis. ZION’s bonds were indicated in the mid-$80s just prior to SIVB filing, with the CMA 10-year note in the high-$90s context. While ZION is clearly in more distressed territory, both banks’ current valuations in the debt market seem to appropriately capture the likelihood of regulatory intervention at this phase in the crisis.
Both CMA and ZION were placed on review for downgrade by Moody’s on 03/13/23 along with several other regional banks, shortly after SIVB and SBNY were placed into receivership. In the case of CMA, the rating agency highlighted the bank’s reliance on confidence sensitive uninsured deposit funding, significant unrealized losses in the available-for-sale (AFS) portfolio, and modest levels of overall capital. Specifically, the unrealized AFS losses were estimated to be 38.5% of tier 1 common equity capital. Likewise, ZION was singled out by Moody’s for uninsured deposits, as well as unrealized losses in its securities portfolio that represented 51% of common equity at year-end 2022. S&P has yet to weigh in on either of the lenders since the start of the crisis.
Banks with California footprints were quickly drawn into the fray. While both are located on the Westcoast, neither CMA nor ZION has an operating footprint with the majority of operations located in California, as is the case with SIVB and FRC. CMA is headquartered in Dallas, TX and operates throughout its home state, MI, AZ, and FL in addition to its branches in CA. ZION is based in Salt Lake City, UT, with operations throughout UT, CA, NV, AZ, TX, CO and ID.
Looking first at the securities positions of CMA and ZION as potential risk factors. CMA had no held-to-maturity (HTM) holdings as of year-end 2022, while the fair value AFS holdings were at just over $19 billion, with a net unrealized loss of just over $3 billion. That represented 39% of Tier 1 Common Capital as stated by Moody’s and 74% of Tangible Common Equity. Meanwhile, total securities were a more modest 22% of total assets. For ZION, HTM fair value holdings were just over $11 billion with just under $12 billion in AFS holdings. Net unrealized losses were $1.5 billion, including a $113 million gain on HTM holdings. The net estimated loss represented 23% of Tier 1 Common and 45% of Tangible Common Equity. Total securities represented about 26% of total assets. Both banks’ unrealized losses-to-equity rank on the high side relative to IG peers but consider SIVB’s holdings just prior to collapse. SIVB’s total securities holdings stood at over 55% of total assets. Meanwhile, the nearly $18 billion in total unrealized losses in the securities portfolio represented 149% and 129% of Tangible Common and Tier 1 Common Equity, respectively.
Looking at deposit concentration, SVB Financial was an unique institution. Because of its unique position as a lender to the venture capital industry, an estimated 97% of the bank’s total deposits were uninsured as of year-end 2022. That resulted in an average deposit size of approximately $1.1 million. SBNY’s average deposit size was next largest in the industry at roughly $500K. WAL is next at about $300K and FRC follows at just over $200K. After that the range of outcomes drops off considerably. About 73% of CMA’s deposits are uninsured, which compares to an industry median closer to 53%. ZION is a little bit lower but also high relative to the industry at 66%. Both banks have average deposit size in a very normal range relative to US regional banks with CMA at $60K and ZION at approximately $51K. Most regional banks with reasonably high concentration in commercial depositors fall in a very similar range.
Another factor that is raising concerns across the US banking industry in wake of the recent collapses is the degree to which each individual bank is highly concentrated in commercial real estate (CRE). CRE has long been speculated as a potential area for rapid credit deterioration in the near-to-intermediate term. CMA’s exposure to CRE as a percentage of its total loan book is about 19%, which hardly qualifies as an overexposure to the loan class. Even when adding on the amount of construction and development loans, the total is only about 25.6% of total loans outstanding. ZION’s CRE exposure is about 30% of its total loan book, or 36.6% when including construction and development loans. Neither of these concentrations appear onerously high when compared to the broader IG regional banking peer group.