Bank remains a dirty, four letter word for most. But the banking sector is starting to trend higher.
Looking at the chart below of the Dow Jones Bank Index, the current move higher started in December, gaining nearly 20%. This begs the question of valuations – too rich or is there more upside in the sector? Fundamentally the sector would be considered fairly valued with the average P/E near 12. However, the next question to pose would be if the E (earnings) will rise over the next 12 months? If so, the current valuations have room for upside in the price of the stocks. Due to the actions by many banks in the mortgage disaster and the lingering effects to the balance sheets, there is a reluctance to invest in the sector. Politics, personal opinions and emotions aside, the sector remains attractive on the upside short term. Yes, there are still problems with the bad loans and a new regulatory bill to deal with, but it is worth sifting through the sector for opportunities.
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The sector breaks down into two major groups, first the large banks and second the regional banks.
The first group gets the most headlines and is susceptible to the most volatility. The SPDR KBW Bank ETF (NYSEARCA:KBE) is one option for investing in the sector to capture the move of the larger banks. The chart of the ETF looks similar to the chart of the index above. The break above $25.30 was our entry point for investing in the sector. Our current target is $29 and stop is $23.90. Thus, our outlook is positive short term for the sector.
The SPDR KBW Regional Bank ETF (NYSEARCA:KRE) represents the second group and likewise it made a break through resistance at $24 as an entry point. The sector has seen more volatility in price based on the news surrounding specific stocks. The concern remains solvency in the sector as the list of banks on the FDIC watch list is comprised of mostly regional banks.
As stated above, the sector moved up 20% off the December lows as investors took a more positive view of banks returning to “normal." We take that to mean their concern for bankruptcy gave way to potential for survival and growth of banks. Scanning through the individual stocks in the bank index you can easily see which banks received the biggest vote of confidence by the rise in their share price. Digging into the KBE we find banks of interest relative to future value. Two to watch on the upside are Wells Fargo (NYSE:WFC) and Bank of New York Mellon (NYSE:BK). Both announce earnings next week and expectations are positive.
Wells Fargo is positive from the perspective they are actively working on cleaning up their balance sheet. They have issues like many in the mortgage department, but they are managing the process and future profitability is positive. Our target for the stock is $39.75 over the next 12 months.
Bank of New York Mellon is more on the asset management side of the business, and if they continue to manage and execute according to plan the earnings outlook is bright. Our target on the stock over the next 12 months is $42 based the ability to manage their business and improve bottom line profits.
Digging into the regional banks ... we find banks of interest as well. Huntington Bancshares (NASDAQ:HBAN) paid off TARP last month and continues to execute on its growth plan. The bank has become profitable again with earnings expected above 40 cents for 2011. The outlook fundamentally is in place and it comes down to execution. Our 12 month target is $9.50 with the potential to reach $11 based on earnings acceleration.
The bank sector is worth digging into and doing your homework to find opportunities. If you don’t have time or the expertise to analyze individual stocks, focus on the ETFs and the diversified approach of investing in the sector. Define your entry, exit/stop and target on every investment prior to putting your money at risk.
Disclosure: Money Strategies as a firm holds positions in each of these stocks and ETFs for clients.
Disclosure Statement: Jim Farrish is the Founder and Editor of SectorExchange.com and TheETFexchange.com as well as the CEO of Money Strategies, Inc., a Registered Investment Adviser with the SEC. The company and/or its clients may hold positions in the ETFs, mutual funds and/or index funds mentioned above. The commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities. Investors who are interested in money management services may visit the Money Strategies, Inc., web site.