Why U.S. Banks Won't Be Crushed By A Greek Default

 |  Includes: BAC, BCS, C, JPM, SAN, SPY, WFC
by: Bio Insights

The markets have priced in what seems to be a full expectation of a default of Greece. Germany, the most important pro-bailout force in the EU may be throwing in the towel as early as this week, as the nation's populace gets increasingly pessimistic about the whole situation. Merkel will have to make the politically correct choice - all signs are pointing to a default.

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The stock market has priced in much worse. US banks have been hit almost as bad as European banks. How bad is the Greek risk to US banks? This article from Reuters outlines why the already low ~$33 billion worth of exposure from US banks is already hedged (although we don't have all the details). The point is, a lot of people have already assumed the worst in the stock markets (and the best in treasury bills, but that's a whole different topic). The European-related damage has already been done to your portfolio, and US banks are not going to take as big a hit as you might have thought. If you sell now, you'll miss a potentially huge rebound - especially in the financials.

This is not even accounting for the power that the fed will invoke to boost the stock market in the near future. One thing we can infer, is that Bernanke really wants to help the banks. The recent strength in the US dollar would provide the perfect opportunity for this to happen. Even if money supply increases drastically from the new measures, relative to alternatives in fiat currency, the dollar (and yen) will still manage to look attractive to frightened institutions and individuals worldwide. If you needed a reminder as to how dovish Bernanke remains, here is a quote from the Jackson Hole speech earlier this year:

Monetary policy must be responsive to changes in the economy and, in particular, to the outlook for growth and inflation. As I mentioned earlier, the recent data have indicated that economic growth during the first half of this year was considerably slower than the Federal Open Market Committee had been expecting, and that temporary factors can account for only a portion of the economic weakness that we have observed.

A dovish fed, and a potential QE3 (or something similar) will create a comfortable landing pad if bank profits fall for the remainder of 2011. Even earlier in the year, the fed "promised" low interest rates until 2013. The highly troubled housing market could finally see a bottom given stimulus, as banks would be able to significantly expand their capital. This is one of the only feasible methods by which the fed can get banks to lend to homebuyers a "vital" part of the recovery as stated by Bernanke.

Looking at bank equities, we see that investors have left anything that could be affected directly by Greece and Europe in general. This is on top of, what seems to be, a "priced in" recession. Here is a 6-month chart showing just how far financial stocks have fallen this year relative to SPY (The SPDR S&P 500 ETF), especially recently:

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Value investors should be grabbing shares of major US financial institutions hand over fist at these levels - especially the banks who are taking less damage from continually deteriorating housing market conditions. JPMorgan Chase (NYSE:JPM) and Wells Fargo (NYSE:WFC) are the best examples of this. Both incredibly undervalued, these banks are growing profits (albeit slowly) despite the poor loan environment. Citigroup (NYSE:C) and Bank of America (NYSE:BAC) are still extremely troubled, with BAC not even making a net profit yet. Still, they've simply fallen so far relative to other stocks that it's hard to justify selling these stocks if you already own them (or passing these equities up in this Euro-induced fire sale). This is not 2009.

European banks are a different story. Barclays (NYSE:BCS) for instance has much more Greece exposure than the US banks and will hence take a much bigger haircut when earnings are released in subsequent quarters. Banco Santrader (STD) is something you ought to avoid as well, even if the dividend is enormous. Spain's situation resembles Greece to a large degree, and it's hard to justify buying STD while there are equally cheap American banks that are much safer in relation.

Disclosure: I am long JPM.