There has been quite a lot of activity lately with some of my portfolio holdings. Unfortunately, I have been a bit too busy to get around to writing about these developments in a timely manner. Hopefully, my perspective makes up for my tardiness.
Hudson City Bancorp (HCBK) was a company that I recommended in late November 2011. In fact, the article about it was my first on Seeking Alpha. I had known about HCBK for quite some time prior, and had admired how the company navigated the subprime mortgage mess and ensuing recession better than almost all of the other large regionals and most of the giants (Bank of America, etc.). However, two missteps (one that I completely understood and one I never did) caused the bank to suffer when most were in recovery. The first was just a part of the business model and not unlike many other banks similar to HCBK. Having a loan-to-deposit ratio greater than 100%, it is always a negative, at least in my opinion. Deposits are the cheapest form of funding in the financial universe and anytime a bank uses another form of borrowed money (in the case of HCBK, from the FHLB), it is a less-than-conservative strategy. This was the one aspect of HCBK that was a complete negative for me when I first began analyzing the company. However, with many more positives outweighing that negative and a price that I considered a real bargain ($5.13), it made sense to pull the trigger.
The other real misstep, which was an effect of the first but one that management can't be blamed for completely, was the bet that interest rates would go up. This was before the Fed gave the indication that rates would stay the same through 2014, and the idea of interest rates hovering near zero for so long didn't seem anywhere near probable. With borrowers refinancing into record low rates, it became more and more difficult for HCBK to maintain its already below-average net interest margin (a result of keeping costs the lowest in the industry and passing on that savings to the borrowers with lower rates) with the higher cost FHLB loans.
So where are we today? Well, as most of you reading this probably know, on Aug. 27 HCBK agreed to be acquired by M&T Bank (MTB) for $3.7 billion. Considering I had roughly 32% of my portfolio invested in HCBK (and 68% invested in two other companies -- maybe I'll write an article on my portfolio management sometime) the deal is one that I have had to look at very closely. My instant reaction was that management had agreed to sell for too little. I knew M&T was getting a bargain, and so did the market as the shares of M&T rose several percent after the announcement. However, extraordinary times call for extraordinary measures. Unfortunately, the thorn in the side of HCBK is interest rates, and they don't seem to be going up anytime soon. Although I think that HCBK would have been able to come out of this environment stronger, the question was: How long would that take? It would have almost surely involved another restructuring if the Fed kept its promise of interest rates staying at rock bottom until 2014. Given that uncertainty, it makes sense to sell.
In addition, while the price still seems a bit light even when you consider the $2.3 billion that it will cost M&T to restructure the remaining debt, the opportunity cost for shareholders were HCBK to remain an independent entity in this extraordinary environment would be far greater. However, considering the deal consists of cash and stock in M&T, which appears to me to be overvalued at this point, were HCBK shareholders to approve the deal (along with regulators), HCBK shareholders will be exchanging undervalued currency for overvalued currency (at current prices). More uncertainty looms when considering the number of law firms investigating the deal. However, I am even more skeptical of lawyers than of the fairness of this deal.
As a result, being that I have been rather neutral on this deal -- neither extremely pleased or extremely displeased -- from the day it was announced, I decided to cut my stake in half on Aug. 27. With a cost basis of $5.20/share and my sale price on Aug. 27 of $7.47/share, I locked in an annualized gain of approximately 53%. I am still unsure if I will sell the rest of my shares or take the M&T shares if the deal ultimately goes through. Although M&T is a fine bank, I am leaning toward selling because I feel I can probably get a better deal on the shares sometime in the future. I will keep readers posted.
Disclosure: I am long HCBK.