On Tuesday financials began the day as market leaders after the S&P/Case-Shiller 20-city composite posted a 1.6% increase in July home prices. This marks the third month of increased prices for the index that measures 20 cities. And although July wasn't as bullish as June's 2.6% increase, it still shows that consumers may finally be ready to buy new homes. With that being said, what does this mean for the banking industry? Is it finally time to buy banks?
A recent increase in the price of houses is just one of many indicators that should be used to assess the economy and more specifically financials. But like all indicators, the housing index has more impact on certain industries, particularly construction, supply companies, and of course banks. The strong data can be misleading, as not all of the 20 cities that make up the composite have been encouraging. Atlanta is still down 9.9%, Chicago down nearly 1%, as is Las Vegas. But then there are the brightest of the bunch: Denver's 5.4% gain, Minneapolis' 6.4%, and the leader of the bunch, Phoenix and its 16.6% advance. Other cities such as San Francisco, Seattle, and Tampa also performed well, above the average.
After seeing the breakdown of home prices, and how the trends are changing throughout the country, the main question may be how to play the gains. Obviously large banks such as Bank of America (BAC) and Wells Fargo (WFC) benefit from the overall growth and strength of the prices due to exposure, and the fact that housing is such a crucial segment to the growth of banks. However, certain regional banks will benefit in greater with a strong presence in fast-growing regions of the country. In terms of valuation companies such as Citigroup (C) and Bank of America both trade at roughly 50% of its book value per share and with forward P/E ratios of less than 10. Therefore, both with high exposure throughout the country are priced attractive, and with a growing and strengthening housing market both stocks, along with WFC and JPMorgan (JPM), could quickly rally to 52 week highs and beyond if demand continues to rise.
Some investors will elect to play the housing gains by investing in large money center banks and banks with large exposure throughout the country. It's a good strategy, but in an unstable economy it may be wise to invest in the undervalued regional banks that have a strong presence in growing regions of the country. For example, we know Atlanta is by far the worst of the bunch. Therefore, cities surrounding Atlanta are most likely suffering. As a result, banks such as SunTrust (STI) may not benefit from having high exposure to the surrounding area. However, banks such as U.S Bancorp (USB) with its large presence in Phoenix and KeyCorp (KEY) with its exposure in Denver may be worth watching.
Over the last year regional banks have performed well, as have large money center banks. Companies such as Huntington (HBAN) and Fifth-Third (FITB) have outperformed most in the sector due to strong fundamentals as a result of location. Yet despite the performance, almost all in the sector are undervalued, compared to fundamentals. Right now, interest rates are at all-time lows, and as consumer sentiment and housing prices rise it is possible that the financial sector begins to trade considerably higher, and lead the market to new highs. It will be something to watch over the next few months, because if the trend continues, banking stocks will no longer be as cheap.
Disclosure: I am long JPM.