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3 Bank Stocks for the Safe Deposit Box

Smaller banks face a "grow or sell" situation -- and either is good for investors

By Tim Melvin, InvestorPlace Contributor

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As we head onto 2016, there is no doubt in my mind that the smaller regional and community banks will be the place to be again in 2016.

3 Bank Stocks for the Safe Deposit Box

The banking industry has been changed forever by the wave of regulatory changes like Dodd-Frank regulations and the Durbin amendment, which restricts the amount of fees banks can charge.

The cost of complying with new regulations is making it very difficult for small banks to operate effectively. Bank industry observers and analysts have said that the bare minimum asset level needed to be a standalone bank is $1 billion. Banks below that level need to find a way to grow very rapidly or face the prospects of being acquired by a competitor.

Once you cross the $1 billion mark, the next goal is to get to the $3 billion to $5 billion asset level that one consultant referred to as the sweet spot for community banks.

Smaller banks face a “grow or sell” choice in 2016, and either of those should work  well for those who own these bank stocks going into 2016.

Bank Stocks to Buy for 2016: Prudential Bancorp (PBIP)

Bank Stocks to Buy for 2016: Prudential Bancorp (PBIP)Prudential Bancorp (PBIP) should be a leading bank stock performer in 2016.

The Philadelphia-based bank has abut $500 million in assets and is very well capitalized. The equity-to-assets ratio for Prudential at the end of the fourth quarter was 23.75, well above the 11.6 average of U.S. banks.

That excess capital can be used to buy back shares, increase dividends or make acquisitions that get them closer to the $1 billion asset threshold.

So far in 2015 the bank has repurchased 1,095,184 shares of common stock at weighted average cost of $13.41. The dividend is just 0.8%, and I would expect we see some dividend hikes in the years ahead.

The bank operates in a very crowded market, and there is a long list of banks that might be interested in acquiring PBIP. Three major bank stock investors have a position in the stock, so there could be pressure on management to improve the stock price or sell the bank next year.

Bank Stocks to Buy for 2016: Charter Financial (CHFN)

Bank Stocks to Buy for 2016: Charter Financial (CHFN)I am a big fan of Charter Financial (CHFN) in West Point, Georgia, as the year comes to an end.

The bank has 16 branches in its home state, Alabama and Florida, with right at $1 billion in assets. The bank has made four acquisitions over the past few years and just announced another one this month. Charter is buying CBS Financial Corporation in Smyrna, Georgia, in a deal that will add more than $350 million in assets to the bank.

Charter is determined to continue growing into the economically strong Atlanta metro market, and this acquisition moves them along towards their goal.

Charter shares yield 1.5% and management has bought back about 30% of its outstanding shares over the past few years, so they are using their cash to reward shareholders as well as grow the asset base.

The equity-to-asset ratio is over 19 so they have plenty of access to capital to put to work to both achieve growth and pay shareholders with dividends and buybacks.

Bank Stocks to Buy for 2016: First Northwest Bancorp (FNWB)

Bank Stocks to Buy for 2016: First Northwest Bancorp (FNWB)First Northwest Bancorp (FNWB) should also do well next year. The bank completed its conversion from a mutual thrift to a shareholder-owned bank in January.

The one-year restriction on buybacks and dividends imposed on conversions expires in the first month of 2016, and I expect to see a buyback announced shortly thereafter. Post offering the equity-to-asset ratio is 20, so they have more than enough capital to fund a buyback and initiate a dividend.

The bank has a very strong shareholder base of activists, bank stock specialists and value investors, so a failure to take steps to build shareholder value would inevitably lead to a great deal of outside pressure on the board for buyback programs and regular dividend payments.

Business is very good for the bank, with strong gains in deposits, loans and earnings, so I expect this to be a solid selection for 2016.

As of this writing, Tim Melvin was long CHFN, PBIP and FNWB. He is the author of the Banking on Profits newsletter covering the community bank stock opportunity and the Deep Value Report that seeks out undervalued stocks that are likely to survive until they thrive and capture the value effect that has been proven to beat the market over time.

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