Get Ready To Buy JPMorgan On Trading Loss Interrogation
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JPMorgan Chase’s (NYSE: JPM) stock continues to try to recover following the massive trading losses the company suffered from its investments in the highly risky derivatives market. Earlier this month, company CEO Jamie Dimon announced that the company had loss $2 billion and that the amount could increase in the coming months by billions. While the stock has taken a beating, JPMorgan’s woes translate into buying opportunities.
When the announcement was made by JPMorgan that it had loss $2 billion dabbling in the same market that caused the financial collapse of the banking system in 2008, I was stunned. Like most market observers, I thought it odd that the nation’s largest bank would take on such a risk. Then, also like most market observers, I heeded the fact that $2 billion was just a drop in the bucket. 2011 was a banner year for the bank; it earned a record $19 billion, which was a 9% increase from its record earnings of $17.4 billion in 2010.
No matter, the situation has drawn the ire of many, including the Commodity Futures Trading Commission, the Securities and Exchange Commission, the Federal Bureau of Investigation and the Senate Banking Committee to name a few. More importantly, it has disturbed investors who say the bank has loss credibility in their eyes. To back up their disgust, they began selling off the bank’s stock, resulting in it being driven down 20% since the announcement. This amounts to a $30 billion drop in the company’s market value.
On May 22, the stock was trading around $34, which was within its 52-week trading range of $27.85 and $46.49. Prior to the announcement of the trading losses on May 10, JPMorgan’s stock was flirting with that 52-week high. By the market’s close on Friday, May 11, it had plunged to about $32 a share.
Among the factors that give me pause about JPMorgan is the unknown nature of the losses. JPMorgan at first said the losses would be about $2 billion, but then later admitted that could increase by a couple of more billion dollars. I last heard it could be as high as $7 billion. It seems with each passing day, the number increases.
Also of concern is the fact that the trade is not unwound, which is why the bank can’t pinpoint how much the losses will be when all is said and done. Dimon stresses that no outcome will be catastrophic for the bank. However, the volatility of the stock since the trading losses were announced is unsettling to say the least.
Still without a firm handle on how much the losses will be, JPMorgan this week chose to suspend its stock buyback program. While it had been championed as a way to increase the shareholder value, the trading mess has ruined that. In a letter to shareholders in April, Dimon indicated that buying back stock was an option for use of excess capital, particularly when the shares are selling around tangible book value. Therefore, pursuing buybacks when shares are deemed attractive would not be ruled out. That was before its shares slumped due to the trading losses, mind you.
The buyback program totals $15 billion and was just approved this spring by the Federal Reserve.
Despite the credit swap debacle, JPMorgan remains attractive for several reasons. It is trying its best to get ahead and stay ahead of the derivatives debacle. In suspending the stock repurchases, JPMorgan can prepare for new international regulations that will force banks to hold more capital so they can be ready for the fall out of an economic downturn.
If you are considering investing in the financial sector, and you do not have the stomach to tolerate JPMorgan right now, there are other banks that are attractive. This includes those that have exposure to the housing sector, such as regional banks like BB&T (NYSE: BBT). That’s partly because this sector is improving, which will bode well for their mortgage products. Both Wells Fargo and BB&T were able to endure the economic downturn and even continue to pay dividends. They were also able to increase their earnings, and unlike JPMorgan, they have steered clear of risky investments like derivatives.
JPMorgan is still a draw to dividend investors. Investors can take some comfort in knowing that the bank has no plans to cut the dividend in light of the trading losses. It pays a 3.5% dividend, which is considerably higher than its closest competitors.
For example, Bank of America (BAC) pays a .6% dividend. Goldman Sachs (GS) pays a 1.9% dividend, while Citigroup (C) pays a .2% dividend. What’s interesting about these banks is that although they pay lower dividends than JPMorgan, they are not embroiled in a calamity of JPMorgan’s size related to derivatives, which makes them attractive as buys.
One of the next opportunities to buy JPMorgan is the day Dimon goes before the Senate Banking Committee to explain what in the world led to the trading losses. The stock will likely dip on that date, which will create the buying opportunity.
I’ll end where Dimon ended his April letter to shareholders because I think it is even more noteworthy now.
“As for the excess capital, we will either find good investments to make or simply use it to more quickly achieve our new Basel III targets. Rest assured, the Board will continuously reevaluate our capital plans and make changes as appropriate but will authorize a buyback of stock only when we think it is a great deal for you, our shareholders.”
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