End Of Q3 Is Time To Buy Wells Fargo

| About: Wells Fargo (WFC)

Wells Fargo (NYSE:WFC) is one of the most attractive options in the financial industry. Current shareholders should hold long-term, and interested investors may look toward the third quarter's end as an opportune time to buy. The combination of additional quantitative easing and management's projection for a 17 basis point reduction in net interest margin may bring Wells Fargo's stock down slightly. At its current rate, Wells Fargo has favorable metrics, an adequate dividend and a history of better risk management compared to most major banks. Wells Fargo is benefiting from its market share in the mortgage industry while it improves its underwriting and investment banking portfolio as well.

JPMorgan (NYSE:JPM), Bank of America (NYSE:BAC), US Bancorp (NYSE:USB) and Citigroup (NYSE:C) are the major banks most comparable to Wells Fargo. US Bancorp and Wells Fargo have been the least risk laden due to their strategic risk management and lack of exposure to Europe's crisis. Wells Fargo's $3.03 EPS is lower than JPMorgan's $4.32 EPS and Citigroup's $3.45. Wells Fargo's price is 11.5 times earnings, USB is 12.5 times earnings - these are the highest; JPMorgan, Citigroup, and Bank of America are all under 10 times earnings.

Wells Fargo's 1.22 debt-to-equity ratio is the lowest among the banks. Its annualized dividend is around $0.88, JPMorgan's $1.20 annual rate is the highest. Wells Fargo's 12.3% ROE, 31% operating margin and 20.8% profit margin are all second-highest, trailing only US Bancorp by around 400 bps. Wells Fargo's 8.9% sales growth is by far the highest among these banks. Its stock is up 29%, YTD through late September. Wells Fargo shares are up 6.5% since its last earnings release.

On Wells Fargo's recent earnings release, second quarter total revenue was $21.2 billion, decreasing 2% sequentially but increasing 4%, YOY. Net income totaled $4.62 billion, increasing 9% sequentially and 17%, YOY. Net income growth was mainly driven by higher noninterest income alongside higher net interest income and reduced noninterest expenses. Revenue increased due to net gains on mortgage origination and sales activities due to higher margins and lower interest rates that increased the number of loan applications. As a result, Wells Fargo's unclosed mortgage pipeline totaled $102 billion at the end of the quarter, the highest in the bank's history.

Average core deposits increased $10.1 billion sequentially and 9%, YOY; costs on average deposits decreased 9 basis points, YOY. Wells Fargo has consistently increased deposits while reducing deposit costs. Loans 90 days or more past due and still accruing decreased to $1.4 billion from $2 billion at the end of 2011. Wells Faro has been able to improve its credit portfolio by reducing balances in its non-strategic/liquidating loan portfolios by over $87 billion since early 2009 down to $103.1 billion at the end of June 2012. Improving credit quality, robust mortgage banking returns, diversified approaches to fee income, balanced net interests and a diversified loan portfolio have been driving Wells Fargo's recent success.

Noninterest expense decreased to $12.4 billion from $12.5 billion, YOY. Wells Fargo's efficiency ratio decreased 300 bps, YOY to 58.2%, the lowest level in the past nine quarters. Net interest income accounted for 52% of revenue, totaling $11 billion, up from $10.7 billion, YOY. Noninterest income accounted for 48% of revenue, totaling $10.3 billion, up from $9.7 billion, YOY. Noninterest income grew from mortgage originations, capital markets, commercial banking and real estate, as well as merchant and business payroll services. Net interest revenue growth was from Wells Fargo generating low-cost deposits in order to fund loans and securities growth while mitigating higher cost long-term debt.

Community banking revenue increased to $13.1 billion from $12.6 billion, YOY; net income increased to $2.5 billion from $2.1 billion, YOY. Wholesale Banking revenue increased to $6.1 billion from $5.6 billion, YOY; net income was flat at $1.9 billion. Wealth Brokerage revenue declined to $3 billion from $3.1 billion YOY; net income was flat at $0.3 billion. Mortgage banking was the major catalysts behind the growth in noninterest income. Wells Fargo currently has 33% of the mortgage origination market share as a result of Bank of America minimizing its exposure since the Countrywide acquisition. Mortgage banking revenue increased 79%, YOY in the second quarter, due to a recovering housing market and low interest rates. Mortgage originations in the second quarter totaled $131 billion, more than double the rate from last year.

Wells Fargo recently reported that ending July 2012, the bank had over 792,000 active trial or completed mortgage modifications. Around 84% were through Wells Fargo's in-house programs; around 126,000 were through the federal Home Affordable Modification Program. Over the past year, less than 2% of the loans secured in its mortgage servicing portfolio have resulted in a foreclosure sale. During the second quarter, approximately 93% of Wells Fargo's home loan customers were current on their payments. From January 2009 through July 2012, Wells Fargo provided almost 6.5 million low-rate loans for people to buy new homes or refinance existing mortgages.

Aside from mortgage origination, Wells Fargo also focused on underwriting and expanding its investment baking portfolio. Wells Fargo underwrote 5% of 2012's sales, up from 3.6% in 2009. Wells Fargo is now 8th on the list; it was 11th back in 2009. JPMorgan is still the top underwriter, selling $118.8 billion in debt, accounting for 12.3% market share. Bank of America is the next down, selling $103 billion in bonds, accounting for 10.7% market share. Wells Fargo increased investment grade sales to $29 billion from $21.2 billion, YOY and increased high-yield to $14.3 billion from $9.3 billion in 2009. Wells Fargo led sales of $48.3 billion when helping borrowers from both Clorox (NYSE:CLX) and Newfield Exploration (NYSE:NFX).

Wells Fargo's $227 billion securities portfolio yielded 3.97% at the end of June 2012, the highest among the 17 largest US banks. Around 16% of its securities portfolio was in multiple bonds while its average expected maturity was around 5.2 years. Wells Fargo is confident in its portfolio and assures it hasn't been absorbing risks in reaction to the low interest rates. Wells Fargo also recently re-branded its Lacrosse Global Fund acquisition. Some analysts feel Wells Fargo is in a prime position to acquire CIT Group for its higher yielding assets in order to further improve the bank's investment portfolio. Wells Fargo had one of the highest performing banking stocks since the crash; this trend should continue if it adheres to its successful business model.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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