What The Stress Test Results Mean

by: Roger Nusbaum

By now you know that the stress test results came out Tuesday and that 15 of the 19 largest banks passed. The failed "banks" were Citigroup (NYSE:C), Sun Trust (NYSE:STI), Met Life (NYSE:MET) and Ally Financial. I put banks in quotations because obviously Met Life is more of an insurance company. You can read this article for more details.

Taking the results on face value, banks in general could be starting to recover. At some point the businesses will start to get healthy and maybe this has already started. Anyone believing this to be the case might have received a green light of sorts Tuesday.

I have two reasons why I will still say Ni to domestic banks.

The first one has to do with the book value argument that some, like Barron's, have been making repeatedly since at least 2009. The counter argument to being cheap on a book value basis is that book value might be incorrect because there are very likely still more real estate write downs to come-- and I believe there will be more write downs. Anyone believing there will be no more write downs or that any future write downs will be negligible may use this argument as a reason to buy.

Another reason to avoid them in my opinion is the example set by tech stocks in the aftermath of their implosion. Actually, I would say ongoing aftermath given how many of them are still way below where they were 12 years ago. In many instances the earnings have gone up plenty since 2000 (obviously part of the problem) yet there are plenty of stock prices that are just a fraction of what they once were.

Although the circumstances behind tech stocks and banks are very different, I think the market action for the two will be very similar. Actually it could be worse for the banks because tech companies were allowed to fail based on their own lack of merit and this was not universally the case with bank stocks. Some were allowed to fail but many were not and no one should be surprised if there are negative consequences for this.

I continue to believe that banks from many foreign countries are on firmer fundamental ground (ex- Western Europe, ex- Japan and ex- China) and I also think that select small, domestic banks could be considered but they are more difficult to research.

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