Three Financial Stocks Worth Holding

by: Mark Riddix November 30, 2008 | about stocks: BAC / JPM / WFC    

Mark Riddix

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I am trying out a rather risky investment thesis by investing in financial stocks. I have begun to start building a position in the major financial stocks. I believe that the last few weeks have presented some good buying opportunities for financials. The three financial stocks that I have invested in are Wells Fargo (WFC), JPMorgan (JPM) and Bank of America (BAC).

Wells Fargo is probably the best capitalized of the major banks. The recent addition of Wachovia has given Wells Fargo about 800 billion in deposits. Wells Fargo's size is a major competitive advantage. They have a Tier 1 capital ratio and a solid balance sheet. Wells is currently the second largest bank in the US in terms of market cap. Wells also has excellent management. Wells Fargo management have already accounted for a 74 billion dollar writedown of Wachovia’s total loan portfolio. This should reduce Wells exposure going forward. Wells stock has held up pretty well over the last few months compared to its peers. Wells has historically had a 22% profit margin and solid ROE of 18% over the last five years. It doesn’t hurt that Warren Buffett loves Wells Fargo and has owned it for years.

JPMorgan Chase should emerge from the financial crisis as the dominant player in the banking industry. JPMorgan got a steal with the acquisitions of Washington Mutual and Bear Stearns for well below their true value. JPMorgan has the largest deposit base of any bank in the country which gives it a strong capital base. JPM has solid management that has delivered an 18% profit margin over the past 5 years. The return on equity averaged 10.5%. I think this will increase in the future as Jamie Dimon and company realize the synergies of the Washington Mutual acquisition. JPMorgan currently sells well below its book value and pays a healthy dividend.

Bank of America is definitely the riskiest of the three banks. From its purchase of Countrywide just before the subprime crisis to its pending merger with Merrill Lynch, Bank of America has made some questionable moves. The Countrywide and Merrill Lynch deals that appeared cheap before now look severely overvalued. Bank of America’s shares have plummeted and this may provide an opportunity. The stock was selling for $10 recently which is well below its book value. Bank of America has historically averaged a 16% ROE and a 27% profit margin. I think that the Bank of America name is a major competitive advantage. Bank of America has a huge deposit base and the BOA name has significant goodwill. I think the Merrill Lynch acquisition will be a valuable brand for Bank of America long term. But I am not so sure about the Countrywide acquisition. Countrywide has a damaged brand name due to its heavy association with the subprime crisis. However, I do think with their ability to access capital and their strong brand name Bank of America will remain a viable entity.

These three stocks will probably continue to face difficult circumstances in 2009. I do think that over the long term these banks will benefit from the financial crisis and emerge with even greater market share and a stronger financial structure.

Disclosure: Author holds long positions in the above-mentioned stocks.

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This article has 38 comments:

  •  
    Nov 30 09:24 AM
    I like Wells and JP Morgan Chase. B of A bit-off a little more than they can chew, especially with Countrywide. They could of had the "parts' of the company they wanted and little, if any, of the toxic loans. AND, they could of had it for pennies.
    Reply | Link to Comment
  •  
    Nov 30 10:42 AM
    HI Mark et al,

    Why is U.S. Bank (USB) at least as good a long term play at these others?

    I totally agree re WFC and JPM. Comparing them all, USB has a solid balance sheet like WFC and JPM, pays a great dividend yield, also is regarded as somewhat conservative with their loan portfolio. It's also trading well off its 50 and 200 day moving averages.

    Any feedback here would be appreciated. I have successfully traded WGC, JPM and am now considering Long positions in two or three solid banks. I am a bit wary of BAC despite their low price per share and expect their dividend to be cut again soon.


    On Nov 30 09:24 AM I should know wrote:

    > I like Wells and JP Morgan Chase. B of A bit-off a little more than
    > they can chew, especially with Countrywide. They could of had the
    > "parts' of the company they wanted and little, if any, of the toxic
    > loans. AND, they could of had it for pennies.
    Reply | Link to Comment
  •  
    Nov 30 10:44 AM
    I'd buy AZ before buying any of the other banks. Why? Because in Germany there is no fiction of market capitalism, and thus, there is no need to constantly change the rules when management inevitably blunders.
    Reply | Link to Comment
  •  
    Nov 30 11:50 AM
    I feel that BAC will emerge as a winner when the storm passes. Full confidence of the management team especially Ken Lewis, there should be no reason why this stock won't go to high 30's.
    Reply | Link to Comment
  •  
    Nov 30 12:54 PM
    Consider the "undisclosed"... risks: JPM has largest deivative book in the world, Wells received secret ruling from Treasury to take immediate tax losses on Wachovia loans (possibly illegal), BAC faces huge integration problems with Countywide (overpaid) and Merrill Lynch (overpaid). Commercial real estate loans are pending problem as they go past 90 days due. Consumer credit losses will also mount in the coming months. You believe they have adequately reserved for this? I'm not convinced the risks are less than the opprtunities here. Note: Long WFC, BAC, USB. Sold C and JPM recently.
    Reply | Link to Comment
  •  
    Nov 30 01:42 PM
    You can't just look at straight book value ... need to look at tangible book and discount it accordingly. BAC is potentially a good value under 10, depending on how you discount their book - there is still some opacity in their numbers. I do think Wells and JPM will turn out to be strong - both still have issues, but with C and BAC looking more risky, I think there will be - has been - a flight to quality. Nothing new there.
    Reply | Link to Comment
  •  
    Nov 30 02:28 PM
    Well... As much as I don't like or trust banks, you are in good company with Ken Heebner.

    jegan
    Reply | Link to Comment
  •  
    Nov 30 05:47 PM
    I believe this article presents the three big banks that will be left on a national level when this "crisis" is all done. They all seem to have more money than we think and just when it looks like they are done buying they take over something else. As long as the Fed and TARP keep treating these big banks favorably, which they have been doing, we should see a nice return, eventually.
    Reply | Link to Comment
  •  
    Nov 30 06:11 PM
    I agree with that comment. They overpaid for Countrywide.


    On Nov 30 09:24 AM I should know wrote:

    > I like Wells and JP Morgan Chase. B of A bit-off a little more than
    > they can chew, especially with Countrywide. They could of had the
    > "parts' of the company they wanted and little, if any, of the toxic
    > loans. AND, they could of had it for pennies.
    Reply | Link to Comment
  •  
    Nov 30 07:04 PM
    BAC paid all stock for Merril, so I'm not sure how it makes sense to say they overpaid--the price has fallen 50%, like their stock.

    Unless you're trying to time the absolute bottom, I don't see much point in buying these things now. They will be in a bottom-ish range for a while, so it's smart to wait for more clarity.
    Reply | Link to Comment
  •  
    Nov 30 07:09 PM
    Hello YankeePride,

    I consider US Bancorp to be very similar to a Wells Fargo. They manage risk well and typically keep a very conservative loan book. I do think that US Bancorp could benefit by acquiring a bank to give them a larger national presence. I don't know too much about Downey Financial. So maybe that is the deal they were looking for.

    On Nov 30 10:42 AM YankeePride77 wrote:

    > HI Mark et al,
    >
    > Why is U.S. Bank (USB) at least as good a long term play at these
    > others?
    >
    > I totally agree re WFC and JPM. Comparing them all, USB has a solid
    > balance sheet like WFC and JPM, pays a great dividend yield, also
    > is regarded as somewhat conservative with their loan portfolio. It's
    > also trading well off its 50 and 200 day moving averages.
    >
    > Any feedback here would be appreciated. I have successfully traded
    > WGC, JPM and am now considering Long positions in two or three solid
    > banks. I am a bit wary of BAC despite their low price per share and
    > expect their dividend to be cut again soon.
    Reply | Link to Comment
  •  
    Nov 30 07:17 PM
    Good ole Ken is down big time in 2008.


    On Nov 30 02:28 PM jegan ;-) wrote:

    > Well... As much as I don't like or trust banks, you are in good company
    > with Ken Heebner.
    >
    > jegan
    Reply | Link to Comment
  •  
    Nov 30 08:26 PM
    Another "me too" set of stock recommendations that sound disturbingly like the ones I get from every single sell side analyst on the street. You picked the same three political winners (not economic winners) as Henry Paulson.

    WFC, like every other bank, claims to have (say it together now) "a very conservative loan portfolio". Whoopee, so did everyone else. Unless and until WFC publishes for more details on their loan portfolio, we have to assume this is on par with Dick Fuld telling us Lehman is solvent. We all know that WFC's loan portfolio is heavily concentrated in California (where home prices have fallen more than the national average). On that basis alone, real analysts (not the ones on Wall Street) would be worried about any company with a heavy California concentration.

    I know in my state WFC sent out **UNSOLICITED** home equity checks through the US mail. Presumably, these went to people with high credit ratings -- meaning the loans will goose up Wells' statistics. But sending unsolicited loans through the mail (only requiring a scribble / signature to start?) is hardly a bank you can call "conservative&quo... I think its more accurate to say WFC knows how to manipulate average portfolio statistics.

    As pointed out by another commenter, JPM runs the largest derivative book in the country. I doubt Jamie Dimon fully understands all the risks on (well, really off) his balance sheet -- and I am positive that the author has no clue.

    BAC overpaid for Countrywide and Merrill. Ken Lewis is already backpedaling on whether BAC stands behind CFC debt -- its clearly not worth par, and probably not worth much at all. But since he bought CFC under the cover of darkness (and probably with the Fed's gun to his head), its not clear he can legally walk away. On Merrill, Lewis has stated unequivocally that he will shut the trading desks and focus on wealth management -- meaning the traders who actually know the risks on Merrill's books have zero reason to stay. Merrilll brokers can easily go into a private practice and outsource record keeping to Schwab, eTrade, Interactive Brokers, etc... its far from obvious why any of them want to deal with the bureaucracy of a mega bank.

    And all three banks you mention face massive integration risks-- the corporate cultures of WFC / JPM / BAC do not match those of any of the companies they are acquiring. Risk systems (such as they are) are incompatible.

    And all three banks are likely to face Citi's problem -- being too big to manage. I know CEOs are supposed to be able to leap tall buildings in a single bound and all that -- but the reality has fallen far short of that.

    The management style needed to be a successful mortgage underwriter is not the same as the one needed to be a good wealth manager... A bank's best **trading** client might easily be a really bad mortgage risk. Having the same clients borrowing money and investing money is very obviously a doubling down of risk (from the bank's standpoint).
    Reply | Link to Comment
  •  
    Nov 30 10:16 PM
    This must be based on size. Otherwise why isn't U.S. Bank included? I don't own any U.S. Bank stock.
    Reply | Link to Comment
  •  
    Dec 01 12:51 AM
    Two points.....avoid starting all your sentences with the same, same, same words. Try..."the bank" or use the stock symbol(s).

    Dump the "I think..." We know you think this; why else would your write it?
    "I think" suggests an unwillingness to offer an air of authority to your opinioins. The same holds true for "I believe," "It seems to me that" and "In my opinion."
    Reply | Link to Comment
  •  
    Dec 01 01:27 AM
    First of all BAC got $5B credit taxes from Fed for buying Cowntrywide...this mean BAC got it for peanuts...also MER acquisition include 45% of Black Rock Inc...not bad at all....on top of that BAC has now 12% of US deposit and 25% of the lending market and will be #1 Wealth management in the world...look at JPM and WFC
    they will have to integrate WAMU ...BEAR STEARNS..Wachovia etc...BAC will get more market shares from them during this 2-3 years...and building more in europe...asia...during JPM and WFC consolidation time...

    Also look at JPM and WFC issues with liabilities...lots stuff still off balance sheet...BAC...balance sheet stuff is already advance....Best of luck with WFC..and JPM...but BAC is more solid in my opinion....
    Reply | Link to Comment
  •  
    Dec 01 01:40 AM
    Oppenheimer & Co. analyst Meredith Whitney also trimmed her estimates on JPMorgan. She now expects full-year earnings of $1.11 per share, down from a prior estimate of $1.61 per share.

    Reply | Link to Comment
  •  
    Dec 01 02:02 AM
    Any Bank can do a Bear Stearns deal like JPM when FED give you this..."The Fed extended JPMorgan Chase a $30 billion credit line to help it buy rival Bear Stearns, a firm with an 85-year history on Wall Street that was on the verge of collapsing due to losses in the mortgage market" the question why JPM....in WAMU also?? another good one is Citi with Wachovia...deal was done and then oups...WFC get in the picture and steal it from Citi....that was not "Kosher"??? LOL
    Reply | Link to Comment
  •  
    Dec 01 02:10 AM
    You said:

    "JPMorgan currently sells well below its book value and pays a healthy dividend"

    what?? lets see:

    JPM :Book Value Per Share (mrq): 36.945 now: $31.66= -$5.285 from Book value..

    next:

    WFC:Book Value Per Share (mrq): $14.151 WFC trade at $28.89 =WFC trade at 2X the book value...LOL

    Next:

    BAC: Book Value Per Share (mrq): 30.006001
    BAC: trade at $16.25 = almost 50% off from Book value...LOL

    DO YOU COPY HOUSTON??
    Reply | Link to Comment
  •  
    Dec 01 08:59 AM
    Investments is all about risks, the riskier the investment, the higher the potential of making profits. Of late, I have been avoiding investing in banks because their level of risk is too high, but if have a big heart to absorb risks, I think that Bank of America will be a good buy, but for a long term.
    Reply | Link to Comment
  •  
    Dec 01 09:24 AM
    On the contrary, in Europe government has a piece of the largest banks. They have and will continue to prop up their banks as they see fit. European balance sheets are very murky and unreliable. Their accounting standards are a disgrace. The only thing providing a sense of stability is that everyone knows the government will rescue in a New York minute.


    On Nov 30 10:44 AM Jimmy Lathrop wrote:

    > I'd buy AZ before buying any of the other banks. Why? Because in
    > Germany there is no fiction of market capitalism, and thus, there
    > is no need to constantly change the rules when management inevitably
    > blunders.
    Reply | Link to Comment
  •  
    Dec 01 01:59 PM
    THESE ARE GREAT STOCKS!

    I couldn't have picked a better 3 financial stocks to buy. JPM is the cream of the crop; I believe they will come out of this crisis ahead of everyone else. Wells is a solid company that has a great opportunity to expand with its Wachovia ownership. If Bank of America can get this Merill acquisition sorted out, it could work out very well for the capital markets, investment banking, and wealth management areas that B of A has lacked in.

    I have come up with a list of 3 Stocks to Buy before Christmas on my site at:
    investorpitstop.com/fi...

    They are stocks that if you hold, you will outperform most investors.

    I know JPM, BAC, and WFC will do extremely well if they are held for two to three years. Good luck everyone!
    Reply | Link to Comment
  •  
    Dec 01 02:18 PM
    Here's my top 3:

    USB:
    Old-school retail bank model. Flush with cash. Profits actually growing!!! Acquiring competitors for pennies. Mortgage liabilities concentrated in the least bubble-prone regions of the US. A little expensive though.

    DB:
    Took a thumping on their US/UK mortgage assets, but still making profits. Single digit PE. Huge, with little doubt about survival. Lots of upside when it gets back halfway to 52 week highs.

    NBG:
    Should be insulated from US / UK housing meltdown. Single digit PE and still making profits. Healthy balance sheet and dividend. At this point Greek accounting standards seem about as trustworthy as those of USB, C, or BSC, but this is still a speculative money play with massive upside.
    Reply | Link to Comment
  •  
    Dec 01 02:33 PM
    I don't think that the established banks will do all that well in the long run.
    1) Why make loans at all when the gov't money keeps coming in?
    2) The people who used to make money for banks by assessing risk will have to join start ups in order to get back to real work. I think that the lower overheads and 'less herding mentality' a decentralized internet based bank can achieve will make all these institutions look like dinosaurs within a few years.
    3) Who are the next banks? The Paypal types? overseas? Not likely Wall Street.
    Reply | Link to Comment
  •  
    Dec 01 03:20 PM
    People are unbelievably stupid. Almost as stupid as Congress...

    As you watch the markets go up and down, keep in mind that is no longer a function of the financial health of those institutions; it is a reflection of the degree of government intervention, be it the United States or overseas.

    Make no mistake, what you may think of as a stock market, is 180 degrees from what they were a year ago. An editorial I read on Bloomberg a couple of weeks ago but it best when he said, to figure out how to make money in the markets is to figure out who and when the government will bailout next. One person posted on this site that they'd like to run a FOI request on Paulson so he could get the Dow closings until January 2009. Funny, but not that far off of what is going on; market bumps are at the expense of $trillion or more now.

    Next, the Fed and Treasury have provided very little, if any, transparency into what is really going on; therefore you must assume that every major institution in the United States is insolvent until proven otherwise.

    Finally, listen to the cracking voices as Paulson, Bernanke, et.al. as they talk about the economy. They are all scared sh*tless (to put it mildly). Economists at leading institutions throughout the United States have been warned not to explore, in public, the possible future scenarios for our failed economy and country.

    In summary, if you invest in this so-called market, you are so dumb that you'd probably support the invasion of Iraq all over again.
    Reply | Link to Comment
  •  
    Dec 02 01:29 AM
    I would be interested to know over what period you calculated the historical average returns for these banks. In the case of JPMorgan, a five year period was used. To earn such returns in a period characterized by such speculative excess, is not, as we have seen, necessarily an indication of good management.

    Overall I think that the financial stocks are still too risky. When Lehman collapsed, the valuation of its senior debt implied a $110B hole in its balance sheet. Also note that when Wachovia was forced to actually value its assets by Wells, it took a $28B hit. The situations at Freddie and Fannie were similar. What is hiding on the books of these institutions? I for one don't want to be a shareholder when we find out.
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  •  
    Dec 02 08:23 AM
    BAC will have a major problem once the dust settles. They are already operating illegally but have not been called on it yet. No US Bank can hold more than 10% of all US depositors. That's the Law, they are in violation.

    Who can take the excess above 10%? What would they be willing to give up?

    Who else fits this profile?
    Reply | Link to Comment
  •  
    Dec 02 11:25 AM
    Very interesting strategy. But what about credit card default rates, car loans etc.. with the country in a major recession maybe even depression, I still would hold my my money off the table for awhile. I don't see these stocks doing anything soon anyway.

    Check out this cool site for traders, gives you your trading style and personality. www.freetradingquiz.co.../
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  •  
    Dec 02 10:02 PM
    That certainly is a risky strategy. Have you looked at their balance sheets? Are you sure they're not hiding any mortgage-related bad assets in SIVs? And are you certain that their Tier 3 capital ratios are believable?

    Remember that those 5 year ROEs were acheived in an era when leverage was extraordinarily cheap and widely available, with an active secondary market for these banks' "innovative" mortgage products. Those conditions will not prevail in the next five years.
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  •  
    Dec 02 10:04 PM
    Three good stocks. The only problem is that 100% of em is American. Do you have any idea of foreign stocks (outside of Canada and USA) which could be bought reliably for long term fat dividend returns? What about DB ING and AIB ? No body talks about them, are they ignored bargains?
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  •  
    Dec 03 12:37 AM
    ...just buy XLF on the dips and you won't have to pick winners or losers.
    You can also look into diversified financial funds like Nuveen JQC which currently trades below NAV and pays a whopping 24.5% dividend yeild. If you follow the Rule of 72, your investment will double in less than three years without any stock appreciation if you set up DRIP's.

    But don't take my advice...I've gotten my clock cleaned by the financial sector this past year.
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