3 Banks Offering 20% Gains in 2013

Richard is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Warren Buffett once said, “Derivatives are financial weapons of mass destructions.” On May 10 he was proven right when JPMorgan Chase dropped a bombshell on the market - disclosing it had amassed a $2 billion credit-derivative loss from a poor trade, which would then become infamously known as “London Whale.” From there it got worse.

What was initially announced as $2 billion loss was then revealed to be $6 billion - with the possibility of reaching $7.5 billion when it was all said and done. Suffice it to say, the year in banking started off on the wrong foot. However, that the S&P 500’s financial sector outperformed all others in 2012 means that every other step taken since JPMorgan’s embarrassment lead in the right direction.

There were a lot of reasons for the recovery. But will it continue in 2013? As well, aside from specific fundamental issues with certain banks, investors have to be mindful of the European debt situation, which continues to drag down several names with exposure abroad. Still, 2012 was a great year in financials and here are three names and three reasons to expect better performances in 2013.

Bank of America (NYSE: BAC) – Price Target $15

Can the bank continue its restructuring efforts?

Leading off is the sector’s best performer in Bank of America, which has gained 110% in 2012. That was not a typo. However, I do understand that quite a bit of this gain has had to do with the fact that the bank had been beaten to pulp in 2011. There was no way to go but up. On the other hand, it’s been a hard fought battle towards recovery.

The bank had to justify this level of confidence with its execution, which it has done to perfection. It started with a blueprint toward sustainable growth, one that investors want to see extended over the next several years. This included a 10% workforce reduction which will impact headcount by as much as 30 thousand people.

Likewise, the bank’s better than expected string of earnings which included a $340 million profit in its most recent quarter continues to support its turnaround. Remarkably, despite the bank’s stellar 2012 performance, shares are still discounted to its tangible book value. The stock is worth a gamble here and patient investors should begin to take notice.

What’s more, with so much change at the company, the Street still overlooks that Bank of America scores well on its stress tests. This is another reason to think that the stock is no longer a high risk trade - at least not to the extent that it was at the height of the credit crunch and housing crash. Although expectations for another double in 2013 is unrealistic, $15 to $18 per share by the second half of 2013 is possible.

Wells Fargo (NYSE: WFC) – Price Target $40

Will it continue to be the safest bank among its peers?

While Bank of America was considered the villain among banks at the height of the credit crisis, Wells Fargo has always had the distinction of being the “cleanest shirt in the dirty hamper.” It’s not a glowing endorsement, but I’m sure you get the point. Since that dark period, Wells Fargo has cleaned up its messes arguably better than anyone.

During that span the bank has created various routes for growth while also improving its risk exposure. This often discounted “safety net” has considerable amounts of value as demonstrated by its recent quarter, which included $4.9 billion in profits – a company record. Remarkably, this represented an annual increase of 22% with a 27% sequential improvement.

With 11 consecutive quarters of profit growth, there is not a better banking franchise on the market today – not one that size of Wells Fargo that produces a combination of profits and double-digit revenue growth. What’s more, the bank consistently demonstrates solid execution and leverage as both its assets and its investments continue to produce meaningful returns.

Impressively, Wells’ solid performance comes amid adverse climates impacted by weak long-term interest rates. But on the other hand, its business is unburdened from the various types of risks that have hurt its peers. Many of which include derivatives, investment banking, prop trading and adversities of Europe.

Finally, it comes down to the fact that Wells Fargo has an excellent brand. And as shown in its mortgage performance where it is stealing share from JPMorgan Chase and Bank of America, Wells still has many more opportunities to grow. On that basis, I expect the stock to continue to outperform and reach a price of $40 at some point in 2013 – representing a 20% gain.

JPMorgan Chase (NYSE: JPM) – Price Target $52

Can JPMorgan outperform rivals in 2013?

We started off with JPMorgan’s dubious trade, but remarkably as the year progressed the market has said “so what.” The stock has gained 40% since reaching bottom at $30.83. Cooler heads prevailed. But the fact is the bank makes too much money and despite the poor trade it is not going anywhere. The market appreciated this reality.

As it stands there is plenty to like with the bank, which is actually outperforming rivals in several key categories. For instance, in its most recent quarter JPM exceeded both top and bottom line estimate – beating EPS and revenue goals by 6% and 16%, respectively. Its revenue of $25.9 billion was not only 13% better sequentially, but it was a 6% improvement year-over-year.

As well, net income surged to $5.7 billion – a 15% sequential improvement. This was enough to beat Citigroup’s (NYSE: C) earnings, which although Citi beat top and bottom line estimates, Citi’s $19.4 billion Q3 revenue declined year over year by 7%. Likewise, as much as I love Wells Fargo, it was no match for JPMorgan’s report.

This is what the market understands, which also supports the 40% increase in share price despite the “London Whale.” As with both banks above, JPMorgan’s current valuation is attractive on the basis of the quality of its management and for having stabilized a business that is now poised for long term growth. What’s more, with the possibility of share buybacks over the next several quarters and an improving balance sheet, patient investors will be rewarded with (at least) 20% upside in the stock in 2013.

Bottom Line

Despite fiscal concerns abroad, financials did well in 2012. Revenue growth was a welcomed surprise despite an unfavorable interest rate climate. Although fiscal concerns remain, 2013 should continue the recovery. But investors would do well to monitor issues related to the fiscal cliff and any adverse consequences presented by policy changes. That said, as long as banks continue to clean up their balance sheets and show improved profitability, the stocks should do well.

rsaintvilus has no positions in the stocks mentioned above. The Motley Fool owns shares of Bank of America, Citigroup Inc , JPMorgan Chase & Co., and Wells Fargo & Company. Motley Fool newsletter services recommend Wells Fargo & Company. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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