“We’ve Seen the End of Times”: Tom Michaud on Market Extremes, IPO Red Flags, and 9/11

Tom Michaud has led KBW for over 40 years and has served as its head since 2011. KBW lost 67 colleagues on September 11, 2001, representing more than a third of those in the office that day. The firm's co-CEO was killed, the other co-CEO lost his son who also worked there, and more than 35 percent of KBW's capital was owned by someone who died that day. During the 2008 financial crisis, a young employee told Michaud they knew it was not the end of times because they had already seen the end of times, a direct reference to September 11. Michaud credits the resilience built from that experience as central to KBW reaching its current market position.

Michaud identifies unbridled growth relative to the broader economy as the primary warning signal for banking sector trouble. Because financial services has little patent protection, no single firm can justify growing exceptionally faster than peers without taking on unusual risk. Silicon Valley Bank doubled in size two years in a row, funded by uninsured deposits invested in long-dated bonds. The Federal Reserve then undertook what Michaud describes as a 67-year aggressive rate-increasing campaign, driving SVB's bond portfolio deeply underwater. Regulators permitted SVB to count those bonds at cost under hold-to-maturity accounting, but the market rejected that treatment, and the same problem affected First Republic.

US bank capital is at a two-decade high. Citigroup's tangible common equity to asset ratio was roughly one and three quarters percent during the global financial crisis and stands above six percent today. Michaud warns that credit remains the biggest risk to banks because credit losses hit the income statement immediately. His firm estimates the median US bank provision at approximately 26 basis points to loans, below a full industry cycle, with 35 basis points still considered acceptable. Early warning indicators including regulatory delinquency data and credit card securitization trust data currently show no signs of serious credit stress, though Michaud says a credit normalization is coming.

The post-2008 regulatory environment combined with zero interest rates drove significant market share from regulated banks to unregulated non-banks and private credit. Michaud characterizes the current moment not as deregulation but as a regulatory reset back to original intent, with Washington now allowing banks to compete on a level playing field with non-banks. Private credit grew so rapidly that investors are now realizing liquidity and returns are not what they expected. He does not view private credit problems as systemic but expects winners and losers among funds, and predicts the next roll-up story in financial services will be private credit managers acquiring other private credit managers.

JP Morgan spends 19.8 billion dollars on technology this year, and fewer than ten other American companies outside the large hyperscalers spend that much. JP Morgan currently holds just over 10 percent of US deposits with a stated goal of reaching 15 percent, and Michaud predicts the firm will pursue 20 percent after that. Of approximately 4,300 banks in the United States, 97 percent are community banks below 10 billion dollars in assets. Community banks cannot afford comparable technology investment and must rely on providers such as Fiserv, FIS, and Jack Henry. Michaud warns the danger for community banks is being disintermediated by their own client base without recognizing it, which could force them into riskier asset classes and destabilize the broader industry.

Michaud warns that if the Clarity Act is written so that stablecoins function as a savings mechanism resembling a deposit, it could degrade deposits, hurt the credit multiplier, and reduce credit availability for Main Street America. He describes the US banking system as developed over several hundred years and argues that degrading deposits would cause serious harm to it. On the IPO market, he notes the current year is already running stronger than 2021, driven partly by a deep private equity backlog and partly by passive investing, since index funds must buy shares once companies go public, creating built-in aftermarket demand that did not exist 25 years ago. He cautions that markets are notorious for being extraordinarily positive or too cautious and rarely stopping at the right point.

Michaud estimates approximately 35 percent of the market is owned by index funds, closet index funds, or quant funds, and argues the resulting swings in market extremes make active stock picking more important rather than less. He identifies banks and other out-of-favor sectors as containing strong companies trading at significant discounts to historical valuations. His core investment principle is buying best-in-class trophy companies when they are on sale, on the basis that doing so means acquiring the management teams capable of navigating problems on investors' behalf. He adds that the best returns come from buying at the right price rather than from timing the sale correctly, and that maintaining liquidity and avoiding over-leverage allows an investor to keep buying if prices fall further.