Profile: Western Alliance Bancorp (WAL)

October 22, 2021 | In this issue of The Institutional Risk Analyst, we take a look at one of our favorite large banks, Western Alliance Bancorp (WAL) of Phoenix, AZ. We wrote about WAL in February (“Western Alliance + AmeriHome = Big Possibilities”) and the $50 billion bank holding company proceeded to lead the large bank group in terms of equity returns. In this edition of the Premium Service of The IRA, we compare WAL to some of the largest banks in the US. No surprise, the comparison is more flattering for the smaller institution. WAL illustrates why the largest banks are “dead money,” to paraphrase Kevin O’Leary speaking on CNBC, but super regionals continue to create significant value for customers and shareholders.

WAL reported Q3 2021 earnings yesterday after the close. In Q3 2021, net income was $236.9 million and earnings per share of $2.28, up 74.4% and 67.6%, from $135.8 million and $1.36, respectively. Net revenue was $548.5 million, an increase of 79.7%, or $243.2 million, compared to an increase in non-interest expenses of 88.4%, or $109.7 million.

As we’ve written previously, the acquisition of AmeriHome Mortgage from Apollo Global Management (APO) has created big value for WAL shareholders. The AmeriHome transaction closed in April of this year. For those not familiar, AmeriHome is one of the leading aggregators of conventional loans in the secondary market and is head-to-head with the likes of PennyMac Financial (PFSI) and the largest banks to buy 1-4 family mortgage loans.

Let’s look at WAL vs. the largest US banks to get a sense of just how much better this $50 billion depository performs vs these institutions and Peer Group 1, which includes the 130 largest US banks. First let’s look at credit loss rates as measured by the FFIEC. As you can see, WAL’s net charge-off rate is a fraction of that normally seen for its larger peers. And this stellar credit loss performance has been the norm for WAL going back many years. Note WAL’s net loss rate of 0.01% of average assets in Q2 2021 vs the 0.13% average for Peer Group 1.

Source: FFIEC

Next, we turn to the gross spread on loans and leases, which reflects how the bank is able to price its loans in the market. Again, WAL outperforms Peer Group 1 and even bests JPMorganChase (JPM) by a wide margin. Not only does this reflect the superior operating performance of WAL, but also highlights how smaller banks tend to have better loan pricing power than larger banks.

Look at the comparison between WAL and laggards such as Bank of America (BAC) and Wells Fargo (WFC). WAL’s net interest margin of 3.43% at Q3 201, compared to 3.71% a year ago, illustrates the intense margin compression experienced by all US banks due to the Fed’s radical monetary policy. Yet that performance puts WAL in the top third of Peer Group 1.

Source: FFIEC

After the bank's gross loan spread, the next factor to ponder is funding costs. Again, WAL has a superior funding profile despite the fact that this bank is tiny in terms of total assets vs U.S. Bancorp (USB) and other large banks. Indeed, only JPM and PNC Financial (PNC) had lower funding costs over the past year – a remarkable metric. Since closing the AmeriHome transaction, WAL’s core deposits have grown to $40 billion or 80% of total assets, including $20 billion in non-interest-bearing deposits.

Source: FFIEC

Finally, we look at the bottom line, net income vs total assets. Not only does WAL exceed the returns of JPM and other large banks, but does so by a wide margin. Note too that WAL was delivering this above-peer performance before the acquisition of AmeriHome.

One reason for this strong operating profile is that the bank’s level of loans vs total assets is ten points higher than the average of Peer Group 1 and has been going back at least five years. The team at WAL understands how to maximize operating leverage while maintaining stellar credit performance. Another reason for the strong performance is the low operating expenses, with an efficiency ratio of 44% vs the Peer Group 1 average of 58% calculated by the FFIEC.

Source: FFIEC

WAL has significant double leverage (116%) at the parent level vs an average of 103% for Peer Group 1 but no short term debt or trading exposures. We expect that the bank will pay down the term debt incurred for the AmeriHome transaction and return to the peer average level that existed prior to the acquisition earlier this year. WAL's payback on this double leverage (Equity investment in subs – equity cap / Net income) is 80% vs 25% on average for Peer Group 1, another indication of the bank's strong operating profile.

WAL grew assets 53%, capital 30% and net loans and leases 38% through Q2 2021 as a result of the AmeriHome transaction, making WAL one of the fastest growing banks in the country. Bottom line is that WAL is one the best performing small banks in the US based upon equity market valuations and growth rates. Among asset peers, only the unitary Signature Bank (SBNY) performed better over the past year, as shown in the chart below. We’ll be profiling SBNY in a future report. In the meantime, keep your eyes on WAL as a bellwether for the US banking sector as well as the world of mortgage finance, where the bank is now one of the dominant players in aggregating conventional loans in the secondary market.

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