3 Highly Profitable Bank Winners And Losers 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.

It is probably the case that none of us will ever have a clear look at the actual risks being born via exotic instruments at our nation's largest banks. After all, while JPMorgan was losing in excess of $6 billion dollars in a series of bad trades in 2012, it maintained that its daily value at risk was never higher than $129 million. Any time I discuss the largest domestic banks with over $1 trillion in assets, I am comparing those banks to one another. None of them will I ever own personally, as it is only at the regional bank level that I really understand the bulk of the balance sheets.

U.S. Bancorp (NYSE: USB) is the fifth largest commercial bank in the country, and has been the market leader in terms of profitability among all the top 100 banks since the recessionary years last decade. Only one year in the past 15 has this big bank failed to record a return on assets of at least 1.0%, and that was in 2009 when the return was 0.8%. In the third quarter of 2012 the bank set a an all-time quarterly earnings record with a sterling 1.7% return on assets, and the question was then, and remains today, what more can U.S. Bank possibly do to improve earnings further?

In the fourth quarter of this year, U.S Bank posted earnings of $1.42 billion, or $0.72 per share. This represented a four percent increase from the fourth quarter of 2011's $0.69 per share. The total included an $80 million, or three cents per share, charge for the bank's share of the mortgage foreclosure abuse settlement. The fourth quarter profit represented a return on assets of 1.62%. If we leave out the $80 million charge from the calculation, the quarter's profit would have been 1.67%. For comparison's sake, the fourth quarter of 2011 contained several one-time factors, the aggregate of which added five cents a share to that quarter.

So again we get to the question of where do we go from here. There is little doubt that in 2013, U.S. Bank will be the most profitable big bank in the country. But instead of comparing this earnings machine to other institutions, we must compare it to itself. In 2012, earnings came to $5.65 billion, or $2.84 per share, a 16% jump from 2011. The return on assets for the year came to 1.65%, and the bank's efficiency ratio came to a peer leading 51.5%. It is not realistic to expect substantial improvement in the bank's efficiency ratio, nor its profitability. If earnings are going to grow for U.S. Bank, there are few options other than for the bank to grow its revenues.

Unlike many banks, U.S. Bank has been growing its loan portfolio enough to offset declines in its net interest margin. That margin fell modestly to 3.55% in the fourth quarter, just five basis points below where it stood 12 months earlier. The bank's net interest income in the fourth quarter grew by $110 million, or 4.1% from the year earlier quarter. The overall loan portfolio at the close of the fourth quarter stood at $223 billion, up from $210 billion a year earlier. Strength in the fourth quarter came from the usual suspects: commercial loans outstanding grew by 16% year over year, falling credit costs due to deposit growth, and stronger credit profiles allowed a cut in reserve funding.

The fact is I do not look forward to profit growth in double digits anymore. Its 8.1% Basil III ratio is acceptable, but does not stand out. Its 5 year PEG of 1.2 is higher than that of many banks. My own taste is to find banks that have substantial upward earnings possibilities, and U.S. Bank just does not fit. I would look elsewhere for long-term profits.

My ideal investment among banks is not ones that are running on all cylinders the way U.S. Bank is. I want banks with more recovery potential, though typically such banks come with more risks than institutions like U.S. Bank or Wells Fargo.

My two favorite banks for the next six months are M&T Bank (NYSE: MTB) and Puerto Rico's Popular (NASDAQ: BPOP)M&T will get both an earnings boost and a balance sheet boost upon closing its deal to purchase Hudson City Bancorp. Even without that transaction, which should close in the second quarter of this year, M&T earnings have been on a roll, with 2012 earnings of $7.54 per share an 18% increase from 2011. I have little doubt that generous double digit profit growth will occur again in 2013. With a quality, 2.7% yield, and reasonable trailing price to earnings ratio of 13, I see a short to intermediate term winner here in the banking sector.

Popular is one of my favorite stock market issues for this year. It has already risen in price by about 20% in the first few weeks of this year, but there is plenty more growth ahead both in earnings and in share price. Few banks were hit harder than Popular was late last decade, and even through economic recovery has been weak on Popular's home turf of Puerto Rico, Popular does have a substantial presence with about 100 branches, to go with nearly 35,000 fee free Automatic Teller Machines in the mainland United States.

The earnings turnaround for Popular is apparent with 2012 income of $242 million, or $2.35 per share, a jump of some 60% from 2011. As its credit trends continue to recover, it stands to make sizable improvements in 2013 and beyond. Popular also benefits from its home market having a steeper interest rate curve than in the United States, and its fourth quarter 2012 margin averaged 4.41%, actually up 11 basis points from the same quarter of 2011. That 4.41% is about 90 basis points higher than the average regional bank, and Popular's ability to maintain that margin will increase its profit leverage compared with other banks. In my opinion, there is no bank out there with the long-term growth potential from today's price level as Popular.


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