Why These 4 Banks are Good Buys
Robert is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Back in 2008, the global financial system saw its life flash before its eyes. With Lehman gone, Merrill Lynch and Bear Stearns sold, and AIG under government control, commercial and investment banks alike fought for their survival against waves of panic. Almost four years after this corporate version of The Hunger Games, investor confidence is again the problem as large-cap financial institutions retain historically low valuations in the face of historically low interest rates. Bank of America (NYSE: BAC), Citigroup (NYSE: C), and Morgan Stanley (NYSE: MS) all still trade at under half of their book value and less than 10 times their projected forward earnings; even big, bad Goldman Sachs (NYSE: GS) sports a price to book ratio under 1. Why do investors continue to so heavily discount an industry so integral to the world economy, and what exactly does this mean for the future of banking?
Maybe the issue at hand is our so-called global economic slowdown. Irresponsible governments across the pond seem to be taking turns playing Russian roulette with their respective economies, and the once unstoppable BRIC locomotives are hitting the brakes on their growth-trains. Yet the Chinese economy still grew over 8% last quarter, and its central bank is now cutting interest rates in an attempt to reverse its deceleration; Brazil, its largest trading partner, recently revealed a $4 billion stimulus package. As for the debt crisis, euro zone leaders announced this week that they were willing to use the European Financial Stability Facility to lend directly to troubled governments by purchasing their bonds, a move welcomed by markets across the world. These are just a few steps in a series of many attempts to battle the global turndown, but it is hard to deny that headway is being made, at least on some fronts, and we should be seeing the financial sector reap the benefits.
Or maybe the problem with financials is their earnings. Bank of America’s net income was negative up until midway through last year and has declined over the last two quarters, along with Goldman’s and Morgan Stanley’s (the latter actually lost money during this period). The good news, however, is that: A) Citigroup posted positive earnings every quarter for the past two years, beating analyst expectations with four out of the last five reports; and B) all four companies are projecting higher earnings in the coming year (relative to trailing twelve month figures). If these banks are going to start putting up better numbers, which seems almost impossible for them not to do, they are undoubtedly better buys at their current prices than they will be six months, or six years, from now.
Another (more likely) possibility is that these banks lack reliability. Moody’s, like an overused French Revolution guillotine, unleashed another round of cuts last week, as was expected; all four aforementioned banks were victims of the ratings agency’s downgrades. While this means higher borrowing costs for the affected banks, perhaps the greater danger is the psychological impact on investors; when people can no longer rely on the largest, most influential financial institutions in the world to repay their debt, then who can they trust? And, judging from the prices these companies trade at relative to their assets and underlying businesses, this is, at its core, an issue of trust.
Morgan Stanley betrayed our trust with the Facebook IPO, JPMorgan let us down with the ‘London Whale,’ and, of course, no one has forgotten what happened four years ago when all of these banks decided that risk was a better friend than trust. But that was then and this is now. I won’t discount the valuable lessons learned about placing too much confidence in businesses with such an appetite for gambling, and their low prices do reflect a great number of factors, in addition to the ones I have mentioned. Realistically, however, the depressed financial sector remains the object of fear (dare I say paranoia? Nope, I won’t go that far) more than it is the result of a fair assessment of the sector’s health. That’s not to say that fear is incapable of driving financial stocks even lower, but, as someone who clearly never watched a sunrise before once said, the night is darkest before the dawn.
RobertDColeman owns shares of Bank of America and Morgan Stanley. The Motley Fool owns shares of Bank of America and Citigroup Inc. Motley Fool newsletter services recommend Goldman Sachs Group. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.