East West Bank: standing tall amid the banking crises
- Indraneel Kasmalkar
- Feb 2, 2024
- 3 min read
Disclaimer: This article discusses stocks for informational purposes. Do not make financial decisions without consulting your fiduciary.
Key points
East West Bank (EWBC) has stood as a formidable institution with solid fundamentals amid the banking crisis of 2023.
Owing to its strong financials, EWBC stands to benefit from the current and future distress in commercial real estate.
Book value and dividends have grown consistently by 10-15% per year since 2010.
Introduction
The failures of Silicon Valley Bank, Signature Bank and Credit Suisse in the first half of 2023 caused a crash in the stock prices of all U.S. banks. Further distress in commercial real estate, especially with the office sector falling out of favor in a post-pandemic world, is likely to put banks under even more duress. This situation presents an opportunity: why not invest in an outstanding bank with resilient fundamentals?
The East West Bank is the perfect candidate.
The business characteristics
The East West Bank was founded in 1973 in Los Angeles, California to serve the Chinese American community. It has since expanded into other states, as well as into China and Singapore, a distinction unique among American regional banks. This diverse footprint and the close ties to the Asian American community give the bank access to unique and valuable business opportunities.
The bank follows a conservative strategy of a highly diversified, low-risk loan portfolio. As of 2023, its $52.2B loan portfolio is distributed evenly between commercial & industrial (C&I), commercial real estate (CRE), and consumer loans. For CRE, the average loan-to-value ratio is 50%, and no individual sector covers more than 10% of the portfolio.
The conservative strategy is also reflected in its broader financial health metrics. The bank far exceeds the capitalization ratios mandated by federal regulators: its common equity Tier 1 capital ratio stands at 12.7% (minimum 4.5% required), and its total capital ratio stands at 14% (minimum 8% required). Few banks, even the large ones, have such strong capital ratios.
Despite the conservative strategy, earnings and book value at the bank have grown at median annual rates of 17% and 9%, respectively. As emphasized several times by the seasoned Chief Executive Officer, Dominic Ng, the bank uses its fortress balance sheet to capitalize on opportunities precisely when the market is in distress. This a very Buffett-esque approach and is perfectly suited for facing the looming risks to commercial real estate.
The risks to commercial real estate
Demand for office space has dropped considerably because of remote work culture in a post-pandemic world. As a result, banks are facing increasing risks of default for office CRE loans. The risks are magnified for regional banks since they hold a relatively larger percentage of commercial real estate loans compared to the large banks.
The East Went bank has resilient fundamentals to weather the CRE storm. As of 2023, Its exposure to office CRE stands at just 4% of its total loan portfolio. As a more direct metric, the Federal Deposit Insurance Corporation (FDIC) suggests that banks’ CRE exposure should not exceed 300% of their total capital [1]. While 763 U.S. banks exceeded the FDIC-suggested margin of 300% in 2023 [2], the East West Bank stands strong at under 220%. These numbers suggest that the East West Bank has relatively lower likelihood of failure under CRE duress.
Valuation
The East West Bancorp stock price declined from a high of $78 in February 2023, to a low of $41 in May 2023. This low point, reached during the peak of the banking crisis, likely represented the best buying opportunity. As of December 2023, the price stands at $70. Assuming continued book value growth at 9% and a high price-to-book ratio of 1.8, the stock price is likely to reach $200 by 2033. Considering the excellent dividend growth of 15% per year that the bank has demonstrated since 2010, we have a really promising stock.
Final thoughts
The East West Bank was ranked first among the largest U.S. public banks in S&P’s 2022 Global Market Intelligence Analysis. In 2023, it was also ranked No. 1 Performing Bank in Bank Director’s RankingBanking. The reason is no secret: its conservative business model solidifies its strength. If there are distressed banks facing risk of CRE defaults, the East West Bank is not one of them. If anything, this bank could capitalize on the coming distress. Buying this bank at a suitable price could provide promising returns.
REFERENCES
Company financials were obtained from the Securities and Exchange Commission (SEC) Electronic Data Gathering, Analysis, and Retrieval (EDGAR) system.
Comments