Two Minutes Reading with the Masters of Investing
Most people assume that banks are safe investments. After all, they are big, regulated, and handle our money every day. But Terry Smith, one of the UK’s most respected fund managers, has a very different view: he never invests in bank shares. Let’s break down why and why it matters to everyday investors.
1. Banks Run on Extreme Leverage ⚖️
Banks operate with very thin equity compared to their assets. For example, NatWest has just £5 of shareholder equity for every £100 of assets a 20x leverage. This means if only 10% of their loans go bad, the entire equity could be wiped out.
Think of it like buying a house with a tiny down payment if property prices fall just a little, you’re underwater fast.
2. Panic Spreads Quickly 🚨
When depositors lose confidence, a bank can collapse overnight, even if it looked fine on paper. We saw this with Silicon Valley Bank (2023) and Credit Suisse. A rumor, a run, and suddenly billions vanish.
Smith recalls how even a simple crowd at a rainy bus stop once triggered a false “bank run” in Hong Kong. That’s how fragile confidence can be.
3. Poor Returns Despite High Risk 📉
You might expect banks, with all this risk, to deliver high profits. But history says otherwise:
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Over the last five years, banks in the S&P 500 returned about 10.9% on equity.
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Consumer Staples (boring businesses like food and soap) returned 17.9%.
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Bank stocks actually lost investors -15% over that period, while Consumer Staples gained +12% per year.
More risk hasn’t meant more reward.
4. Buffett’s Different View: Bank of America 🏦
Interestingly, Warren Buffett has taken the opposite approach. Through Berkshire Hathaway, he has owned Bank of America for more than a decade and made it one of his biggest holdings.
Why? Buffett sees certain large U.S. banks especially Bank of America as “too big to fail” and central to the financial system. He likes their strong deposit base, massive scale, and ability to generate consistent dividends. In short, he bets that the U.S. government will never allow Bank of America to collapse.
This highlights an important difference in style:
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Terry Smith avoids banks entirely because of leverage and systemic risk.
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Warren Buffett selectively invests in the strongest banks, believing their long-term franchise outweighs the risks.
Both approaches have merit—it depends on whether you trust banking as an industry or prefer to steer clear altogether.
5. Technology Is Eating Banking 📱
Traditional banking is being replaced by fintech. You don’t need a bank branch to get paid or send money apps like Apple Pay, peer-to-peer lending, and credit platforms now handle many of these roles. That makes the old model of banking less essential every year.
As Paul Volcker, the legendary Fed chair, once said: the only real banking innovation in decades was the ATM and we don’t even need those anymore.
Why This Matters to Investors
For investors, the lesson is clear: even great investors can disagree. Buffett has made billions betting on banks, while Smith refuses to touch them. The key is to understand your own risk tolerance.
If you like stability and predictability, consumer staples or tech platforms may be safer choices. If you believe in the resilience of U.S. megabanks, you may lean closer to Buffett.
Either way, know what you own—and why.
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