Famous “Big Short” Investor Goes Long on Banks (JPM, BAC, C)

Steve Eisman, the investor whose character was portrayed by Steve Carell in the Hollywood film “The Big Short,” would seem to be the last person in the world to love bank stocks. Before the financial crisis, Eisman went short on banks that were loaded with bad subprime loans before their shares plunged. But yes, a decade later, Eisman now says his fund is buying bank shares because he sees a friendlier regulatory environment under the Trump administration that will help boost bank returns, according to a CNBC interview.

Banks Looking for a Boost

Such an endorsement by the Neuberger Berman fund manager comes as heartening news for owners of bank stocks, which have slumped in recent months after climbing to post-election highs on cost savings and Trump’s promises of deregulation. Both the S&P 500 Banks Index and the KBW Nasdaq Bank Index were down about 7% from March 1 through Tuesday. (To read more, see: Trumped-Up Bank Shares Aided by Cost Savings.)

Despite the rise in subprime auto loans and their defaults, as well as the fall in used car prices, Eisman believes that banks are much less leveraged these days than they were prior to the subprime mortgage crisis, he said in CNBC’s May 16 story. There will be no repeat of the financial crisis that brought down two of America’s biggest investment banks. That is comforting news, but not necessarily a reason to be long bank stocks.

The Bullish Case for Banks

It’s unclear how much President Trump’s legislative efforts to deregulate banking will be harmed by the controversies surrounding his firing of FBI Director James Comey and Trump’s sharing of intelligence with the Russians, as well as other issues. This uncertainty pushed many bank stocks down sharply on Wednesday. But the bullish case presented by Eisman is based on only modest regulatory reform. Eisman is placing at near zero the odds of repealing the Dodd-Frank Act, but instead he sees those regulatory changes coming through relaxed enforcement of current legislation. According to Eisman, there is significant “leeway” in how Dodd-Frank gets interpreted. (To read more, see: How New Bank Rules Will Buoy Bank Stocks.)

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In this much more relaxed regulatory environment, banks are likely to ask and receive bigger stock buyback programs, the Volcker rule will be reinterpreted, and leverage will increase, although not to the levels reached in the lead-up to the financial crisis.

High on Citigroup

Noting that Citigroup Inc.’s (C) return on equity (ROE) is currently at 8% and will likely rise to about 13-14% in three to four years, Eisman indicated that he holds a long position in the Citigroup as well as a number of other banks and financial institutions.

Eisman’s long position in Citigroup finds support in technical analysis. Michael Kahn noted in a May 15 article for Barron’s that the technical trading signals for Citigroup indicate that it will continue its recent upward trend. As for the share price of banks like JPMorgan Chase & Co. (JPM), Bank of America Corp. (BAC​) and U.S. Bancorp (USB), Kahn says all of them seem to be hovering above a support line after falling from March highs. As long as they don’t break through this support, the bearish trend is likely to reverse.

Given many bank stocks’ decline on Wednesday, whether these stocks have upside for investors may be tested severely if the crisis at the White House exerts a longterm impact on the markets.