On March 13, I suggested that the entire banking system was set up to print money. At the time, I posited that it would be crazy not to buy these stocks as the government, in concert with the Federal Reserve, had teamed up to support the entire banking sector in a way never before imagined.
You can debate the merits of so doing, but do it at the risk of missing out on a huge opportunity. There is no place for politics when it comes time to invest your hard-earned money. If the government’s actions set the table for big profits, only a fool would not eat at the table.
Now, several months later, the banking sector is humming along in great shape. Well, “great shape” may be an overstatement, but the environment for banks to prosper is the same as it was in March.
Three of the five banks that I recommended back in March have gained 72% or more with one, Bank of America (BAC), more than doubling in value. Not only did we eat at the table, but we have gotten quite fat doing so.
The easy money has been made of course, so where do we go from here?
Owning Banks Is Still a No-Brainer
The second quarter has ended, and the results thus far are encouraging.
Goldman Sachs (GS) blew away estimates by earning $4.93 per share, and that includes paying back the government $10 billion.
JP Morgan (JPM) followed suit with its own earnings beat. The venerable bank posted net income of $2.7 billion. It, too, paid back the government some $25 billion.
Why are the banks doing so well?
The simplest explanation is that the steep shape of the yield curve is such that banks are making big bucks on the spread between deposit rates and lending rates. Going a bit deeper, the larger banks like GS and JPM are thriving with less competition and profits from trading and underwriting.
Mortgages and housing may still be a mess, but there is money being made elsewhere. Given that such a dynamic is likely to be in place for the immediate
term, owning banks is still a no-brainer.
The banks on this list all have the potential to double in value, maybe more, over time. It may not happen in three or four months, but waiting a year or two for that double makes the banking sector one of the best investment opportunities available.
Bank Stock #1 Citigroup (C)
In early March, Citigroup (C) was at the top of the list of banks headed for failure. With massive exposure to toxic assets and its management in disarray, it would be hard to argue with those betting against Citigroup.
But then the government stepped in and saved Citigroup. A line in the sand was drawn, and those on the right side of the line would be saved, and those on the other side would fail. Citigroup was on the right side of the line.
There was not a scenario whereby the government would let Citigroup fail. That alone provided enough justification for owning Citigroup in March. Since that time, the stock is up 72%. Shares have dropped a bit since peaking at $4 in May.
Now, at $3 per share, I would use the short-term weakness as an opportunity to buy. This is an easy double, and my target is $10 per share.
Bank Stock #2 Wells Fargo (WFC)
Of all the large banks, Wells Fargo (WFC) has had the quietest time of it. There was minimal risk of failure here, thus, the need for the government backstop was much less.
Even so, investors pummeled WFC shares, and they traded for just $13 in March. About the only stumble made by the company was the acquisition of troubled Wachovia who itself made the disastrous purchase of Golden West Financial at the peak of the housing bubble.
Over time Wachovia is likely to be a great acquisition. In the short term, though, WFC is forced to fight hard to clean up its balance sheet. This week WFC announced that it had sold some $600 million. Interestingly, the bank received some 35 cents on the dollar at a time when hedge funds where only paying half that price.
It may not seem like much, but clearly the market is recovering as investors are willing to pay a higher price for risk. That bodes well for WFC and the other banks.
I would buy WFC at current prices, and my 3-year target is $50 per share.
Bank Stock TCF Financial (TCB)
The government backstop has meant more for the large money center banks than the smaller regional banks. As a result, TCF Financial (TCB) shares have gained some 28% as opposed to the bigger gains at the larger banks.
TCB was somewhat of a renegade with respect to government assistance. They paid back the TARP earlier than most other banks and made a cottage industry of being the bank that turned its back on government handouts. Such a position resulted in gains in deposits. With a steep yield curve, more deposits translate to higher revenues.
That said, the company still faces an uphill battle as regional economic difficulties result in defaults on both consumer and commercial loans. And fears of a blow-up in commercial loans may be keeping TCB stock down.
But I think such fears are overdone. The economy is turning around, albeit slowly. There is still time to own TCB at levels well below my $30 target.
Bank Stock #4 Bank of America (BAC)
Embroiled in controversy over its acquisition of Merrill Lynch, Bank of America (BAC) has been our biggest winner since March, up 129%. Perhaps by taking the biggest risk in buying Merrill Lynch, BAC shareholders are being rewarded with the largest gains in share price.
It seems a bit silly for current CEO Ken Lewis to be crying wolf regarding an acquisition he himself said would be incredibly strategic in hindsight. The deal may become a poster child for the good and the bad of what transpired last fall, but has little impact on the future of BAC.
If Goldman is any indication, Merrill’s activities are likely to be accretive to BAC earnings. The clean-up of the balance sheet continues.
Once free and clear of the carnage, BAC is easily a $28 stock.
Bank Stock #5 SunTrust Banks (STI)
Of the stocks listed here, the future most uncertain is for that of SunTrust (STI). The company operates in parts of the country hit hardest by the collapse in housing. Without the benefit of diversified business operations, the recovery for STI is likely to be a bit more drawn out than Citigroup, Wells Fargo and Bank of America.
A Credit Suisse analyst expects STI to report a loss of 51 cents per share when it reports next week, a smaller loss than the current consensus loss of 63 cents per share. Shares of STI are up a modest 36% since early March. To the extent STI can return to profitability, shares are likely
to continue rising.
I expect gains here to be muted though as key markets struggle to improve. My target for STI is $20 per share.