Wells Fargo, JPMorgan and Bank of America: Stock Prices Can Double 45 comments
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Simple Investment Thesis: pre-provision pre-tax earnings and normalized earnings power have NEVER been higher, banks are not paying dividends so tangible book value is increasing rapidly, and capital ratios are higher than ever in an improving economic environment. Wells Fargo's (WFC) stock price is the same as pre-Wachovia despite a huge increase in earning assets relative to the increase in shares outstanding, a fortress like balance sheet with an incredible financing mix (the lowest cost of capital and cheapest deposit base of all large-cap US banks).
In the next few months, the large-cap U.S. banks will go much higher. If you listen to the bears, you will miss the rally (John Paulson and Warren Buffett are far more intelligent than Meredith Whitney, and Dick Bove said to buy Wells Fargo last year when its earnings power was lower, capital ratios were worse, and tangible book value was lower, and its stock price was higher). Anyone investing based on Meredith Whitney and Dick Bove's advice will miss the next leg higher on large-cap banks. Also, Dick Bove should explain why Bank of America (BAC) and Citi (C) are better buys than Wells Fargo, which has a far superior management team, the best deposit base in the industry, and more consistent earnings power. If he thinks Wells Fargo needs more capital, then Bank of America DEFINITELY needs more capital. Personally, I think all the banks capital ratios are much healthier than in any time in the last five years and I would be strong buyer of Wells Fargo, JPMorgan, and Bank of America.
Two of the world's best investors continue to be extremely positive on the large-cap financial institutions.
John Paulson's most recent quarterly letter on November 16, 2009 explains return analysis for Bank of America:
Bank of America
- Pre-Credit Pre-Tax Income (2011) = $57,500 million
- Normalized Provision (1.75% of Loans) = (16,357) million
- Preferred Dividend & Income Tax = (14,963) million
- Net Income (for common shares) = 26,132 million
- Fully Diluted Shares = 8,802 million
- Normalized EPS = $2.97
- Multiple = 10.0x
- Value at 12/31/2011 = 29.81
- Current Price (as of 9/30/09) = $16.92
- Annual Return = 34%
- Multiple of Investments = 1.8x
Paulson forecasts the current write-down cycle will end December 31, 2011, and visibility for growth will resume in 2012.
Warren Buffett added to his Wells Fargo holdings by over 10 million shares in the most recent quarter ended 9/30/2009. John Stumpf, CEO and President of Wells Fargo, made some extremely positive comments on the company this past week.
Commercial Real Estate
Nearly $500 billion in commercial real estate loans will mature in each of the next few years.
“One reason you’re seeing less pain is because interest rates are so low,” Stumpf said. “The carrying costs of these properties are at record low levels. That being said, you can’t carry it forever if there’s no cash flow on these properties.”
“On the Wells side, while like other banks, ours has taken bumps, but I think it’s the finest underwritten commercial loan portfolio in the country,” he said. “On the Wachovia side there was more risk in the portfolio, but at the time of the merger we wrote that down, we took big substantial hits on that portfolio. So in many cases our losses are already behind us.”
Loans
“We’ve got our team marching double time looking for loans,” Stumpf said. “You hear from time to time that banks aren’t lending money, we’re lending all the money we can.”
Industry wide, loan demand is down as businesses retrench. Since the start of the credit crunch, some in business and in government have complained about the lack of bank liquidity, but bankers have generally been quick to counter that they are making loans to creditworthy borrowers, though standards have tightened.
“As an industry I think one of the biggest challenges will be not enough earning assets, not enough loans,” he said.
Stumpf said the banks are one-third of the way into their three-year integration process. Wells Fargo expected $60 billion in losses over those three years as it came to grips with soured loans within the combined Wells Fargo-Wachovia portfolio. Much of that, about $41 billion, was realized in the first year, as planned.
“We’re still in same zip code with those numbers,” he said, adding that synergies from merged operations are being realized a faster clip than originally planned, and losses from legacy Wachovia’s risky option-arm Pick & Pay mortgage portfolio are actually not as steep as originally feared, despite deepening financial gloom.
“We’re on track, we’re on schedule and we’re under budget,” Stumpf said. "I couldn’t be happier, I couldn’t be more excited.”
The bank’s mortgage origination business, he said, “is booming.” The company originates about one in four U.S. mortgages and services one in six.
Georgia is one of the nation’s leading centers of the foreclosure crisis, but Stumpf said the state has fared better than many areas, including Florida.
“On residential side, seeing signs, especially on the lower end, we’ve reached the bottom,” he said.
The bank has seen home prices rebound from the bottom in California, but losses are continuing in regions like the Sunshine State.
Wachovia and Wells Fargo have modified 400,000 home loans and refinanced 1.1 million loans Stumpf said. Overall, the mortgages on its balance sheet, he said, “have held up exceedingly well.”
Conclusion
JPMorgan, Wells Fargo, and Bank of America are the leading commercial banks in America as we emerge out of the financial and economic crisis of the past 24 - 30 months. Their stock prices today reflect current earnings power and not normalized earnings, which John Paulson says will emerge in the back half of 2011. With extremely low short-term interest rates (3-month treasury yields at .01%, 6-month yields at .13%, and 12-month yields at .26%), the steep yield curve makes banking in an incredibly profitable business today.
Disclosure: Long Wells Fargo, JPMorgan, Bank of America
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there...good job....Wheres Meredith's Numbers????
The international banking cartel makes money off of countries struggling with deflation. I could see them wanting the US to stay in deflation. We could choose not to spend like crazy though and thwart these banksters. But we probably will spend like Japan did.
Wells Fargo's TBV, earnings power, and capital ratios are all higher than a year ago, but the stock price is lower. Given that the economy is now improving compared to deteriorating (last year), Wells Fargo should be much higher than it is today.
On the positive side Wells will get out of TARP as soon as it's game of chicken with the regulators is done, Wells is fully capable of restoring or improving its rolled-back dividend, and home prices appear to have stabilized in Well's primary markets.
On the negative side the refinance and mortgage origination activity that helped drive profits in 2009 are clearly starting to tail-off and will not be major drivers in 2010. The 10-ton gorilla for large banks like Wells in 2010 is going to be the prospect of inflation cutting into net interest margins.
-Matt
On Nov 23 01:47 PM District Banker wrote:
> We will have to agree to disagree on this issue. But how can you
> have a serious discussion of bank stock valuations without a TBV
> figure?
That one doesn't look very compelling. Is there any chance that the CEO of a bank would NOT make positive comments?
Talking about compelling numbers, I miss the part where the author shows how he knows that Warren Buffett is "far more intelligent" than Meredith Whitney. Could I offer without proof that Meredith Whitney is "far more intelligent" than Amit Shah?
I like ideas that stand on their own rather than on someone's past performance.
My opinion of Wells Fargo? I think their accounting is a fantasy. Not that anyone cares.
Foreclosure inventories continued their upward climb. The nation’s September 2009 foreclosure rate stood at 3.12 percent – a month-over-month increase of 2.6 percent and a year-over-year increase of 88.9 percent.
LPS’ October Mortgage Monitor also cites large “shadow” foreclosure and REO inventories. The number of loans deteriorating further into delinquent status is now more than twice the number of foreclosure starts, indicating another major wave of troubled loans in an already clogged loan pipeline. Nearly one-third of foreclosures remain in pre-sale status after 12 months – twice as many as the year prior. The six-month average deterioration ratio has risen the past two months to 300 percent, showing that for every loan that improves in status, three more deteriorate further.
There was a great article out today on seekingalpha about how Whitney never turned bullish on the financials even though she claims to have.
Time will show that Buffett and Paulson are once again on the right side of the trade.
rgds
More importantly, if the economy was on a path towards a steady recovery, then buying banks stocks would make sense. However this is extremely unlikely. In fact, lets look at the conditions facing banking industry.
1. Consumers remain highly indebted, and wish to save. This means the economy will be depressed for a long time. Infact there will be a new norm for spending, which results in less borrowing from banks, a.k.a less earnings power.
2. The federal reserve, and government are holding up what would be massive asset price depreciation, in the housing market. It appears increasingly unlikely that the government will continue this role, as the fed has already announces plans to stop buying MBS, and FHA, Fannie, and Freddie are crumbling with massive amounts of losses.
3. Even with extraordinary government support, credit card & real estate loan losses, house price and asset depreciation, and unemployment have yet to bottom. Infact it is entirely possible, that the current stabilization in GDP and assets prices, thanks to stimulus, is temporary since the stimulus was small and temporary.
4. The balance sheets of these companies are black boxes, and they are actually worse than they were entering 2008. Wells Fargo took on the crap from Wachovia's balance sheet, Bank of America from Countrywide, JP Morgan from Washington Mutual. There is a lot more risk on these companies balance sheets today that there was before these acquisitions.
5. Earnings will decline for some time because of the need to strengthen balance sheets. This process of improving capital ratios will take many years if not a decade. For a safer better capitalized banking system we are looking at something like having major banks hold a tangible equity to tangible assets ratio of 8%, and limits on leverage, lending practices, off balance sheet arrangements, and incentives.
6. Paul Krugman, the respected economics professor, stated that there is a 50/50 chance that the U.S. is headed towards a Japan-like lost decade. Where year after year financial institutions slowly bled to death into oblivion. And the scariest thing is that the United States is making the same mistakes that the Japanese made on their way towards a lost decade. Residential and commericial real estate prices decline for more than 10 years in Japan.
7. Most bankers were overly optimistic heading into the financial crisis. They lost their credibility, so why would anyone take their word on future loan loss expectations?
So multiplying some ratios with optimistically high earnings power assumptions may give you nice, high stock prices. However the road is a lot rockier and uncertain than your arithmetic makes it seem. While I currently hold some positions in banks, but i am looking to unload them as fast as possible.
You should also disclose a very important equity Long BIAS of Buffet.
If you track Buffet`s Bershire Hathway`s annual report,
Buffet has sold PUTS on 4 indices ( includes 2 US indices) to some Insurance firms basically betting that these indices would be higher 10 years from now. he gets a premium of $5 Bn every year and if the puts are ITM there will be no immediate outgo and the option payment will not start from 2017!
Also as admitted by Buffet himself, he is an American Patriot and believer so it is very obvious for him to be overweight in US stocks.
When it crashes again, please note that I'm the one who took all
your money. Please keep leading the sheep to the slaughter house with your crack pot theories on eps and taxes. Not a single person
has mentioned the root cause of problems with the banks or financials. I will give you a hint. What happens when the dollar index falls below 72 or rises to 84. How much nominal value is your stock worth. Your basing valuations on a stable/fixed currency at one given point of time. Let's not get fancy. Banks trade phantom money. Nothing more nothing less. You already got one get out of free jail card on Friday. Did you know the dollar index went from 75 to 82 in after hours trading on Friday after you were already home laying on the couch. ICE had to step in and nullify all trades. Your bank and financial stocks would of been annihilated.
On Nov 24 07:54 AM CC_Gold wrote:
> Thank you for being so bullish on the banks and financials! Please
> buy a much as possible and run the price up into the stratosphere.
>
> When it crashes again, please note that I'm the one who took all
>
> your money. Please keep leading the sheep to the slaughter house
> with your crack pot theories on eps and taxes. Not a single person
>
> has mentioned the root cause of problems with the banks or financials.
> I will give you a hint. What happens when the dollar index falls
> below 72 or rises to 84. How much nominal value is your stock worth.
> Your basing valuations on a stable/fixed currency at one given point
> of time. Let's not get fancy. Banks trade phantom money. Nothing
> more nothing less. You already got one get out of free jail card
> on Friday. Did you know the dollar index went from 75 to 82 in after
> hours trading on Friday after you were already home laying on the
> couch. ICE had to step in and nullify all trades. Your bank and financial
> stocks would of been annihilated.
if banks are so strong why are reserves at record levels? why are they not lending?..because they are insolvent...but thanks to the relax of fas 157 they can pretend to solvent.....
Overall I am reluctant to buy the US banking giants, especially when there are (apparently) healthier banks with intact dividends such as BMO and STD. On the other hand, the Fed have made no secret of their intention to nurse these banks back to health, and we all know better than to fight the Fed, so perhaps the thesis has merit.
Disclosure: no current position in any financials