YCG Investments
“If you buy above average businesses at below average prices, on average, we believe you should come out ahead.” — Brian Yacktman

A Non-Bank Bank

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During this latest downturn we scooped up shares of Bank of New York Mellon’s (BNY Mellon) stock, which has taken a beating as of late as it continues to be clumped in with other banks and broader market fears regarding mortgage losses, industry regulation, and spread net interest income. Additionally, recent news has drawn a negative focus on BNY Mellon’s lawsuits regarding improper foreign exchange fees (which is less than half of 1% of the company’s revenue), and its decision to begin charging fees for some larger deposits (Essentially, BNY Mellon is passing on the cost of having the deposits FDIC insured).

However, BNY Mellon is not a traditional bank since it does very little lending. In fact, only about 20% of its revenue comes from spread net interest. The remaining 80% of their revenues comes from fees generated by a core business of custodial services for large institutions, asset management and private banking. Since such operations don’t carry any credit risk and less fear of regulation, they provide a steady revenue stream compared to traditional banks. Furthermore, since Bank of New York Mellon is not a classic lending and deposit bank and has little exposure to mortgages, it has avoided the credit issues that have plagued the banking industry in recent years. This makes BNY Mellon more of a defensive play in the financial industry because it simply doesn’t carry the same level of risk and accounting uncertainty associated with other banks. And while Bernanke has committed to keep short-term interest rates low for years to come, whenever interest rates do begin to finally rise and normalize, the 20% of the bank’s revenue that comes from spread net interest will actually be an additional boost to the company’s earnings power (as opposed to most banks where rising interest rates and a flatter yield curve can be detrimental).

Also, today’s news of the sudden departure of CEO Robert Kelly has hit the headlines. A change in management could be a good thing by reinvigorating the company and encouraging better collaboration that could raise future profitability.

Bank of New York Mellon is definitely credit-worthy of a look at its current valuation. Its price suggests the bank is in the same pond as struggling traditional banks when in fact it is quite different. In this case, such stereotyping can breed an opportunity for value investors.

Disclaimer: The specific securities identified and discussed should not be considered a recommendation to purchase or sell any particular security. Rather, this commentary is presented solely for the purpose of illustrating YCG’s investment approach. These commentaries contain our views and opinions at the time such commentaries were written and are subject to change thereafter. The securities discussed do not represent an account’s entire portfolio and in the aggregate may represent only a small percentage of an account’s portfolio holdings. These commentaries may include “forward looking statements” which may or may not be accurate in the long-term. It should not be assumed that any of the securities transactions or holdings discussed were or will prove to be profitable. Past performance is no guarantee of future results.

Posted by: Mike Yacktman | September 01, 2011 | Permalink

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