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On March 14th, Wells Fargo & company (NYSE:WFC) announced that the Federal Reserve Board had approved their 2013 Capital Plan, which includes a proposed dividend increase to $0.30 per share.

With Bank of America (NYSE:BAC) and Citigroup (NYSE:C) paying next to nothing in dividends, WFC is now the biggest dividend payer among large banks in the US. At 30 cents per quarter, shares in WFC will yield us a healthy 3.24%, well above the industry average of 1.9% and slightly above the number 2, JPMorgan Chase (NYSE:JPM). Goldman Sachs (NYSE:GS) will pay a dividend of only 1.4% at current prices.

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WFC's earnings and dividend dropped significantly in 2008, but unlike many of its competitors, WFC has bounced back at an amazing rate. EPS for 2012 was $3.36, which is well above pre-crisis levels. The dividend however has also made a really nice recovery and the $0.30/quarter will be just over the 2007 level. The payout ratio has gone down and even if we assume no growth in EPS for 2013, it will still be at only 35%. (click to enlarge)

Analyst expect WFC's EPS to reach $3.64 in 2013, and $3.89 in 2014. (Yahoo Finance), and with the payout ratio at a very low point this could mean more dividend increases in the next two or three years. From 2003 to 2007, the average payout ratio was at 44.75%, while in 2012 it was only 26.29%. (click to enlarge)

So, how would an increase in EPS combined with a higher payout ratio look in terms of dividend yield? The table below shows the yield on cost for stocks bought at today's $36.99 per share price.

20% payout ratio

30% payout ratio

40% payout ratio

50% payout ratio

2013 low estimate ($3.44)

1.86%

2.79%

3.72%

4.65%

2013 average estimate ($3.64)

1.97%

2.95%

3.94%

4.92%

2013 high estimate ($3.90)

2.11%

3.16%

4.22%

5.27%

2014 low estimate ($3.57)

1.93%

2.90%

3.86%

4.83%

2014 average estimate ($3.89)

2.10%

3.15%

4.21%

5.26%

2014 high estimate ($4.47)

2.42%

3.63%

4.83%

6.04%

So, even if WFC's earnings drop to $3.44 in 2013, a 40% payout ratio (which is less then the 2003-2007 average), would give a yield on cost of over 4%.

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When we compare WFC's price to earnings ratio to that of GS and JPM, we find it is slightly higher, at 11.0 compared to Goldman Sachs' 10.4 and JPMorgan's 9.1. It is however, still well below the industry average, which is at 14.2.

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WFC is trading at a discount to both its 5-year (12.3) and 10-year (13.5) average p/e ratios (note: I have excluded the 2008 p/e of from these averages as it was unusually high).

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Conclusion: WFC is trading at an incredibly low price, while expectations for earnings per share are really good. It's already the biggest dividend payer among mega-cap banks, and still has a low payout ratio. An increase in payout ratio to 40 or 50 percent could result in a yield on cost of 4 to 6 percent as soon as 2014. Clearly, I consider WFC a buy at current valuations.

What's your opinion on WFC? Please comment below!

Source: Even At A Low Payout Ratio, Wells Fargo Has An Amazing Dividend Yield