US Bancorp Leaps

Mr. Market is jittery about US Banks. US Bancorp is top 10 bank in the US.

I bought leaps in US Bancorp. It is for Jan 2025 and paid $875 for $25 strike.

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$875??? Looks like they were trading for $370 - $376 today.

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You posted quotes of puts. I bought leaps.

Both puts and calls are LEAPS. The term LEAP refers to long-term options (usually beyond 11 months at inception) of both types, calls and puts.

And, of course, I naturally assumed you were bearish on the bank so would buy puts rather than calls. #tongueincheek

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Bought more leaps today. Paid $820 (down from $875) per contract.
The logic is short term panic in decent companies will yield above average results.

Following is the contrary view which is scary. Who’s next ?

It may not be a terrible bet. But it all depends on how the banking issues are resolved. You’re putting down roughly 30% of the current stock price, with a breakeven of about $33.50. There are a few possible outcomes, the ones I can think of offhand are:

  1. FDIC (and Fed) do a real widespread bailout, allow full FDIC insurance, and backstop everything at face value. Including CRE loans. Then the banks raise their deposit rates rapidly to keep/attract deposits, and invest them in higher yielding stuff available now. Later, after the next recession, rates drop quickly and they will drop deposit rates even faster than they raised them and NIM will be high for a while. If this all happens soon, like late '23/early '24, that’ll be good for these options (Jan '25).
  2. FDIC (and Fed, and various govt agencies) require all these banks to raise more capital quickly. That could cause very large dilution of the equity, and would likely be disastrous to these options.
  3. They let it play out as it has been, and allow all the weak banks with mismanaged long-term/short-term assets to fail and be taken over by stronger banks.
  4. They muddle through. Keep rates high, deposits slowly bleed off as more and more people realize they can get 5% in T-bills (the 4-week T-bill was well over 5% today!) or the equivalents. Similar to 3 above, but in slow motion.

Also, US Bancorp is 3 times larger than First Republic or SVB so may not be as easily digestible. And US Bancorp is better managed than most of the others and isn’t truly a regional bank anymore. If US Bancorp goes, they all go (other than the giant money center banks, as usual).

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Excellent assessment.

My logic in buying leaps is simple.

Mr. Market always overshoots in short term panic and undershoots in long term. 2023 is going to be brutal but USB will survive. By 2025 it will be ok.

Edit: This morning taking advantage of the Euphoria, I sold spreads against the leaps for $370 per contract for $35 strike price / Jan 2024.

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There’s another reason the probability of this is somewhat higher. That’s the fact that 2024 is an election year, and nobody wants to deal with BOTH a banking crisis AND a campaign!

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FDIC (and Fed) do a real widespread bailout, allow full FDIC insurance, and backstop everything at face value. Including CRE loans. Then the banks raise their deposit rates rapidly to keep/attract deposits, and invest them in higher yielding stuff available now.

A few thoughts. I want to address the general level of deposit rates and the potential for disintermediation. I continue to believe that these concerns are overblown. Banks will not be raising rates quickly on checking, savings, or money market accounts. I continue to believe that substitution to higher paying deposit products and/or competitors will be modest. Less than 10% of deposits will move. I will add that NIM for most banks is still expanding as rates continue to rise. The recent BAC presentation indicated that a 100 basis point rate parallel increase will add $3.3 Billion to NII. As we wait for deposits to reprice up, which they will I believe more slowly than you believe, assets are repricing up as well. Cash rolls in every day that has to be redeployed at current higher rates.

Regarding CRE. Most CRE is likely to be fine. Hotels, multi family, industrial, are all booming. The major risk area is office CRE. Of the larger banks I analyzed (see below) , BAC has the least amount of it as a percentage of assets. BAC has 18.7 BB per their presentation. So if you assume 100% loss within 1 year, BAC will still be profitable that year! They currently make $40 BB pre-tax pre-provision. USB has 7.9 BB. Slightly less than 1 years earnings pre-tax? I will add that every bank that I have reviewed that I can find disclosures on, their CRE office space was originated at a LTV of 55%. That is a lot of equity in front of these loans. Plus even if they go down it will be over many years, not 1 year. I looked at BAC, WFC, USB, PNC, MTB. None of them appear to have enough exposure in CRE office exposure to cause any real problems. These banks have tons of capital and plenty more retained earnings coming in each year. USB could reduce their dividend and raise their capital levels very quickly.

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Congrats! You are sitting with 80% gains and 530 days to go!

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I did not buy leaps. But I did buy a whole lotta shares. at $30 and below. Selling 42.5 & 45 calls for January 2024.

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