An investor interested in Texas banks should simply buy both Prosperity and Frost. These two biggest Texas based banks are among the best banks in the U.S. They each have their risks. Frost makes energy loans. And Prosperity does not have especially high capital levels. But, these risks should be small because of the conservative attitudes toward lending and acquisitions at each bank. Frost doesn’t make big, transformative acquisitions. And Prosperity is a serial acquirer that has never had high loan losses despite acquiring many different Texas banks.
We can certainly compare Prosperity and Frost. But, my advice and Quan’s advice would be not to buy Prosperity without also buying Frost and not to buy Frost without also buying Prosperity. Unless you have a very, very concentrated portfolio – there is little reason to focus on buying only one bank and not the other.
Prosperity is less interest rate sensitive than Frost. And Prosperity doesn’t make energy loans. So, if your two big concerns are that oil prices will stay low for many, many years to come and the Federal Reserve will keep interest rates at or below zero for many, many years to come – it makes sense to buy Prosperity instead of Frost. I understand some investors may have a feeling about where oil prices or interest rates are headed in the next few years. And they may want to bet on that feeling. But, oil below $30 a barrel is cheap long-term. And a Fed Funds Rate under 1% is low in normal times. So, it doesn’t make much sense to bet against either an increase in oil prices or an increase in the Fed Funds Rate. Buying both Prosperity and Frost can diversify whatever risks Frost has in terms of energy loans and low interest rates. But, I can’t suggest picking Prosperity over Frost. Because, actually, it’s reasonable for rates to rise over the next 5 years and for Frost to benefit far more from that than Prosperity. As for energy loans, the truth is that while Frost might have to write-off a lot of energy loans if oil stays below $30 for years – those losses would not bring Frost’s tangible equity levels lower than Prosperity’s. In other words, Frost can charge-off a lot of its energy loan portfolio and still have higher tangible equity to total assets after doing so than Prosperity does now. So, it’s not logical to prefer a bank with lower tangible equity levels over a bank with higher tangible equity levels just because the bank with higher tangible equity might charge-off loans that would still leave it more highly capitalized than the bank that doesn’t charge-off any loans. So, again, I see no reason to prefer Prosperity over Frost because of energy loans. Low oil prices will cause bad headlines at Frost and not at Prosperity. But, bad headlines don’t necessarily make for a bad stock.
What about interest rates? This one is speculative. But, it’s also a meaningful difference …Read more