American banks have pulled off an accomplishment over the past couple months. The fact that these banks have maintained a consistent stock price given the situation in Europe is a testament to resilience in the industry. Of course, some banks have done better than others and Wells Fargo (WFC) is one of the top banks in the United States currently. Although its stock price has dropped about $3 since mid-March, it has started to rise again. It is one of the banks that learned a lesson since 2008 which has paid off.
Of course, Wells Fargo does not engage in proprietary trading to the extent of some other banks, notably JPMorgan Chase (JPM), but given the massive amount of mortgages held by Wells Fargo, it was also in a precarious situation in 2008. However, it has used these mortgages to its advantage, and now with the default rate stabilizing, it is aiming to increase the percentage of mortgages issued by it in the United States from 34% to 40%. Being that this 34% share in the market brought the bank to $2.9 billion in revenues last quarter, Wells Fargo will likely only gain from this.
As housing begins to stabilize Wells Fargo is in a great position to bring in massive, fairly low risk profits. Investors should be looking to Wells Fargo as a model. It may not be an exciting bank using proprietary trading to bring home profits like JPMorgan, but it also has not posted a $2 billion loss due to trading either. If risk is not your preference, Wells Fargo may be for you.
However, I would not jump into bank stocks just yet. I agree with analysts who give Wells Fargo a neutral rating. There are many uncertainties and shocks looming and until they are sorted out, I don't see the company moving too much up or down. Maintaining its current position is very likely. Take for example, that it and other banks are still very far below the new Basil III capital requirements that are being imposed. To meet these requirements, banks may have to retain earnings, meaning less to its shareholders.
And a European crisis still exists. Although banks have shed many bad loans and decreased exposure to Europe, any crisis would still hit hard. This can be seen in the stock price, as it decreased steadily on pessimism of a Spanish bank bailout, but has increased ever since a sufficient proposal to recapitalize Spanish banks was announced.
Finally, with interest rates so low, profitability has taken a hit. Sure, Wells Fargo made $2.9 billion last quarter due to mortgages, but this is low based on how many mortgages it actually owns. For this reason, Citigroup (C) has lowered price targets on banks, with expectations that earnings will only increase by 3% next year. The interest rate constraint is hitting earnings, and the slower the economy recovers and the more shocks it is hit with, the longer rates will stay low. Investors should be keenly aware of this. There might be a time to purchase Wells Fargo, but now is probably not it.
Of course, these are all industry wide problems and Wells Fargo is not the only one to face this burden. However, it is among the best at handling it.
JPMorgan is among the worst at handling it. Take its $2 billion loss as an example. Without discussing it as everyone has at this point, the heavy use of proprietary trading is a way to becoming profitable when interest rates constraint usual sources of revenue. As it has shown, this does not always work. In fact, this loss had far greater reach than a mere loss in profit. It cut JPMorgan's market capitalization by a staggering $27 billion.
Poor competition is also coming from Bank of America (BAC) which still has not dredged itself out of the mess it acquired itself into in the lead up to the financial crisis. Needless to say, it created the mess for itself. It and a few other large banks (worth noting JPMorgan is one of them, Wells Fargo is not) are being sued by the FDIC on behalf of small banks yet again. These lawsuits prove a headache and are likely to continue well into the future over deceptive trading of financial instruments prior to the financial crisis.
But not all banks are being held back. PNC Financial Services (PNC) is doing quite well. Much as Wells Fargo is doing, PNC has reserved $350 million for repurchases of bad mortgages. In fact, this year its revenues are expected to increase by about 10%, which is much higher than the number cited by Citigroup for downgrading prices of many other US banks. Mortgages have been worse for PNC as for Wells Fargo, but for the same reasons mortgages could be a huge source of revenues for PNC in the near future.
Another strong rival is U.S. Bancorp (USB) which has been a wonder child for the past couple months. It continues to be held back by the same pressures faced by other banks, but it increased revenue in other ways. Its next step is to increase fees for overdrafts. Many banks have taken heat for this previously but consumers are going to have little choice in the matter. As banks continue to generate revenue from high fees, this is the norm.
What does all this mean for Wells Fargo? It will be a solid bet, I just can't say when. If downward pressures continue to constrain its stock price and growth, investors will see little return in their investment. But, if you keep a strong eye on the market and on interest rates, you could be rewarded greatly. Don't expect that to be soon however, as interest rates will not be increasing any time soon. I would hold off on this for now but be ready to jump on it when conditions become more favorable.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.