In one of my previous articles, I mention that one of the first books on investing that I ever read was "One Up On Wall Street" by Peter Lynch. This was quickly followed up with his second book, "Beating The Street", and I still read both books every few years as much needed refreshers.
In "Beating The Street", Lynch discusses the important role that small bank and savings and loan stocks contributed to his historic performance as fund manager of Fidelity's Magellan mutual fund. These smaller regional and community banks often offer an opportunity for growth, dividend income and the occasional buyout play, and for the most part, without the economic, regulatory and legal headwinds facing the nations largest banks.
Lynch stresses several metrics that he used to rate these smaller bank stocks, including share price, dividend, book value, and equity-to-assets ratio (E/A), which he calls "the most important number of all".
The E/A ratio is used as a measure of solvency, and is calculated by dividing shareholder equity by the total assets of the company. For example, if shareholder equity is $100 million, and the company's assets total $500 million, the E/A ratio is .20, or, expressed as a percentage, 20%. A high ratio reduces risk by ensuring that shareholders receive more of the company's assets in the event of liquidation.
Lynch explains that a minimum ratio of 7.5 provides not only "disaster protection", but also that a high E/A ratio makes a bank an attractive takeover candidate, as their excess equity gives the company excess lending capacity that larger banks may want to use. An E/A lower than 5 puts the company "in the danger zone" and should be avoided.
In this article, I've chosen to highlight five small and mid cap bank stocks that offer all of these qualities - undervalued share price, trading at a discount or a low premium to book value, and paying solid dividends. In addition, each of these five companies has also recently reported strong second quarter earnings growth.
Huntington Bancshares Inc (HBAN)
Huntington Bancshares Inc is a banking and financial services company that provides commercial, small business, and consumer banking services. As of July 24, 2012, the company had 680 branches located in Ohio, Michigan, Pennsylvania, Indiana, West Virginia, and Kentucky. Huntington Bancshares was founded in 1866 and is headquartered in Columbus, Ohio. The company recently announced second quarter net earnings of $152.7 million, or .17 cents per share, a 5% increase over second quarter 2011.
As of August 10th, Huntington Bancorp stock traded at $6.45 per share, with a P/E of 10.40. The stock has traded between a 52 week low of $4.46 and a 52 week high of $6.83. Huntington Bancshares pays a quarterly dividend of .04 cents, for a 2.50% yield, with a very safe payout ratio of 25%. Shares are trading at 5% premium to its $6.13 book value. Huntington Bancshares equity to asset ratio is 9.02%.
People's United Financial (PBCT)
People's United Financial, Inc., founded in 1842, is a community based regional bank, offering commercial and retail banking, as well as wealth management services. Based in Bridgeport, CT, the company operates 416 retail locations in Connecticut, New York, Massachusetts, Vermont, New Hampshire and Maine. The company recently announced strong second quarter net earnings of $64.8 million, or .19 cents per share, a 21% increase over second quarter 2011.
As of August 10th, People's United Financial stock traded at $11.94 per share, with a P/E of 19.04. The stock has traded between a 52 week low of $10.50 and a 52 week high of $13.79. People's United pays a quarterly dividend of .16 cents, for a 5.40% yield. Their payout ratio is an ultra high 100% of earnings, so beware of a dividend cut that may be on the horizon here. Shares are trading at 21% discount to its book value of $15.12. People's United Financials equity to asset ratio is 12.0%.
Washington Trust Bancorp (WASH)
Westerly, RI, based Washington Trust Bancorp operates 20 bank branch offices and 8 mortgage and wealth management centers located in Rhode Island and southeastern Connecticut. The bank, founded in 1800, is the oldest community bank in the nation, and one of the oldest public companies listed on the stock market. The company recently announced record second quarter net earnings of $8.7 million, or .53 cents per share, an 18% increase over second quarter 2011.
As of August 10th, Washington Trust Bancorp stock traded at $24.70 per share, with a P/E of 12.47. The stock has traded between a 52 week low of $18.62 and a 52 week high of $26.76. Washington Trust pays a quarterly dividend of .23 cents, for a solid 3.70% yield on a very sustainable payout ratio of 45%. Shares are trading at a somewhat high 38% premium to its book value of $17.89, but with everything else offered here, I'm willing to live with that. Washington Trust's equity to asset ratio is 9.63%.
Webster Financial Corp (WBS)
Webster Financial Corporation was founded in 1935 and is headquartered in Waterbury, Connecticut. The company operates 168 banking offices in southern New England and Westchester County, New York. The company recently announced strong second quarter net earnings of $40.6 million, or .44 cents per diluted share, a 22% increase over second quarter 2011.
As of August 10th, Webster Financial stock traded at $21.17 per share, with a P/E of 12.12. The stock has traded between a 52 week low of $14.34 and a 52 week high of $23.94. Webster Financial pays a quarterly dividend of .10 cents, for a 1.90% yield on a miniscule payout ratio of 14%. Shares are trading at a slight 2% discount to its book value of $21.65. Webster Financials equity to asset ratio is 10.16%.
Renesant Corp (RNST)
Renasant Corporation operates 78 banking and financial services offices in north and north central Mississippi, west and middle Tennessee, north and central Alabama, and north Georgia. The company was founded in 1904 and is headquartered in Tupelo, Mississippi. The company recently announced strong second quarter net earnings of $6.34 million, or .25 cents per diluted share, a 10% increase over second quarter 2011.
As of August 10th, Renasant Corp stock traded at $17.79 per share, with a P/E of 18.15. The stock has traded between a 52 week low of $11.80 and a 52 week high of $18.37. Renasant Corp pays a quarterly dividend of .17 cents, for a 3.80% yield, with a manageable payout ratio of 69%. Shares are trading at 9% discount to its book value of $19.57. Renasant Corps's equity to asset ratio is 11.27%.
Smaller companies require that the investor perform the proper due diligence before making an investment decision. With that said, small and mid cap banks offer an alternative for the investor looking to invest in the financial sector without the many problems that come with the larger "too big to fail" money center banks. With multi billion dollar losses from JP Morgan (JPM), and the seemingly endless parade of government investigations against Goldman Sachs (GS) and lawsuits against Bank Of America (BAC), these smaller institutions deserve a closer look by investors looking for growth and dividend income. I am personally long on both JPM and BAC, but have been looking very closely at the opportunity offered in smaller bank stocks lately. With their strong E/A ratios, dare we call some of these smaller banks "too strong to fail"?
Additional disclosure: Additional disclosure: I am not a registered investment advisor and do not provide specific investment advice. The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion. It is up to investors to make the correct decision after necessary research. Investing includes risks, including loss of principal.