3 Standout Financial Picks For 2013

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

I travel regularly by air, and cannot remember the last time I have thought to use a travel agent. It was probably at a time when reservation systems such as AMR's “Sabre” system were proprietary to travel agents. Over the last ten years or more, reservation systems have become transparent, and all one needs is a computer and an internet connection. As someone who has been in and out of American Express (NYSE: AXP) a few times over the years, I have wondered how the company would support tens of thousands of employees in its travel division. In recent years, its card services division supplied the bulk of American Express profits, and I always viewed the travel services unit as an anachronistic vestige. Finally, management agrees.

American Express announced it was laying off 5,400 employees, mainly from its travel services division. And, in a general clean-up of outstanding issues, the company announced an $894 million pretax charge to be taken in the just concluded fourth quarter. The layoffs will account for nearly half of that, the bulk of it from severance payments. American Express is writing down another $342 million due to previously underestimating the percentage of rewards members who would actually redeem their awards. The remaining $152 million will be to comply with regulatory orders issued in October 2012, pertaining to credit card abuses.

As if to offset all the charges, management also gave a clear glimpse into fourth quarter and full year earnings, although the official earnings release is not scheduled until Jan. 17. Without the charges, profits in the quarter came to $1.20 billion, or $1.09 per share, a few cents above the $1.06 per share that had been expected. In 2011's fourth quarter, earnings were $1.01 per share. The quarter will bring earnings for this year to $4.40 per share, up 8% from the $4.09 of last year. The fourth quarter earnings were particularly impressive given the natural disaster in the Northeast in October involving many of its cardholders in New York and New Jersey.

I have liked American Express for a long time, and this inchoate earnings report has done nothing to discourage that. I will want to see the whole supplemental picture to get a better idea of trends in credit quality and the like, but it appears from this unusual glimpse that long-term low double digit growth is within American Express' abilities.

What American Express has also done is make me a little more sanguine about some financial stocks I already liked a great deal, specifically Capital One, Visa, MasterCard, and Discover. American Express card member spending in the fourth quarter was up 8% over the same quarter a year ago, despite a dip due to Hurricane Sandy. These other card companies operate with fat interest rate spreads, and any of their card member spending increases leverage into revenues and earnings.

Elsewhere in the financial world, Wells Fargo (NYSE: WFC) released its earnings, and it was more of the same for this premier big bank. Revenue of almost $22 billion was up seven percent from the fourth quarter of 2011, and earnings of $5.1 billion, or $0.91 per share, were up 25% from a year ago. Wells Fargo's earnings included a variety of unusual factors, such as a $644 charge to account for reserves for litigation expense, and a credit of $393 million for equity gains in its portfolio. But on the whole, these one-time items, including a $250 million reserve release, nearly canceled themselves out. The earnings were marginally better than the $0.89 per share that Wall Street was expecting.

So, it should have been a good day when these earnings were released, right? Not so fast. The stock dropped about one percent on the day of the earnings announcement, as some became fixated on the utterly predictable decline in Wells Fargo's net interest margin (erroneously referred to as “profit margin” in numerous articles) fell to 3.56% in the fourth quarter, down 33 basis points over the course of the year. But growth in the loan portfolio offset much of that margin decline, limiting the decline in net interest income to just 2%. Offsetting that was a 16% jump in non-interest income and effective cost controls, helping to hold down the efficiency ratio in the quarter to an admirable 58.8%.

For all of 2012, Wells Fargo reported record earnings of $18.9 billion, or $3.36 per share, up 19% from 2011. The profit represented a 1.41% return on assets, up 16 basis points from 2011. But there are some reasons for concern. The company's net interest margin will continue to contract due to our prolonged ultra-low interest rate environment. And it appears that the company's tremendous run of mortgage origination may have hit its peak. Mortgages written in the fourth quarter of 2012 were about $125 billion, off from the third quarter's $139 billion. But if the economy does expand as I expect it will in 2013, commercial and industrial loan growth will pick up to offset expected declines in mortgage underwriting.

There is a reason that the likes of Warren Buffett not only has held Wells Fargo for a number of years, but continues to add to Berkshire Hathaway's position. There is little reason to question this big bank's ability to grow its profits in the low double digits annually, at the very least. With Basel III capital of 8.2%, I have no doubt Wells Fargo will pass this winter's stress test, and be approved for more share buybacks and dividend hikes. This can be a core holding for many growth and income type investors.

One of my favorite smaller banks, Bank of South Carolina (NASDAQ: BKSC) also reported earnings indicative of another solid year. Earnings came to $3.67 million, up 15% from $3.19 million in 2011. Its return on assets of 1.14% was up 11 basis points from 2011. The earnings improvement came on the heels of strong loan growth, up 4%, and a net interest margin that actually grew by 4 basis points to 3.87%. The bank's tier one capital level of 12.6% is more than twice the level deemed by regulators as “well capitalized.”

Bank of South Carolina's business is solely in that state, and that concentration makes this small bank prone to more cyclicity than larger regional or national banks. But South Carolina's economy is in relatively good shape and not prone to the sort of booms and busts as more industrial states have. The company's stock advanced right in step with the market in 2012, and with a chance for another double digit profit year in 2013, I like this bank, and its 4.3% yield, for the year ahead.

StockCroc1 has no position in any stocks mentioned. The Motley Fool recommends American Express and Wells Fargo. The Motley Fool owns shares of Wells Fargo. 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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