The last twenty years or so have been a mixed period for financial stocks, and for big banks like Wells Fargo & Co (NYSE:WFC). WFC stock had, like most other stocks, vastly overshot its intrinsic value during the dot-com bubble. Wells Fargo stock fell by about a third in late 1999.
But then came the good times — from then until the mortgage crisis, WFC stock was about as classic a bank play as you could find. Earnings grew with remarkable consistency, and Wells Fargo stock followed suit. Dividends were consistent.
Alas, like most other banks, the mortgage crisis did a number on WFC. The earnings cratered by about 75% and so did the stock. Wells Fargo slashed its dividend by a mighty 85%. Amazingly, since just before the crisis, WFC stock has since returned about 10% annually.
Then something very surprising happened. I was at an awards dinner one night (I didn’t win) and was at a table with some Wells Fargo employees, since the bank was sponsoring the event. We got to talking about Dodd-Frank and how much more expenses the bank had to carry as a result of all the extra compliance. They told me it was a lot, and then about 60% of it was unnecessary.
The Story Behind WFC Stock’s Strength
I took WFC stock off my radar. That was a mistake, because the stock has just kept going up. It says a lot that, even despite the damage to the company’s reputation, Wells Fargo stock took as a result of the fake account scandal (a $20 billion hit to market cap), the business continues to operate without missing a beat.
In my local branch, they had employees in suits greeting us as we entered, inquiring what help we needed, expediting things when the line was long — all to make a customer service impression to blunt the scandal’s effects. In addition, WFC just settled this case, which was very smart. Rather than drag out this PR mishap, it tidied up the mess and took out the trash right away.
Wells Fargo went even further, though. Hourly employees were not only given a 12% raise, but those employees are earning at almost double the federal minimum wage level. This accomplishes two things. First, it helped blunt the bad PR. Second, it helped morale. When a scandal like this hits, branch employees do feel it. Trust me, I know a lot of banking folks, and they take this kind of thing personally.
Bottom Line on Wells Fargo Stock
Now, there are some macro tailwinds in play here. It sounds like the Trump Administration is going to make life easier on financial companies. Both consumer and manufacturing sentiment has been on the rise, which leads to more capital being spent, and therefore more loans are needed for growth.
Q4 seemed to be fairly positive. Net interest margin was up another 5 basis points to 2.87% — one of the highest in the sector. WFC has delivered over $5 billion in net income for the last four years running (per quarter). Commercial and industrial loan performance increased 10%, while commercial real estate and credit cards both grew 8%.
Auto originations were down 15% YoY, and I suspect this is intentional. Auto loan delinquencies have been rising substantially, so Wells Fargo has clearly learned its lesson from the mortgage crisis — namely, tighten up!
Finally, WFC showed a decline in non-performing assets i.e., bad loans, to the tune of $644 million.
Arguably, Wells Fargo did come in with a legitimate miss on its last quarter, though. There was a huge loss, almost $600 million in interest rate hedges. Some may call that a one-time charge, but with banks, I consider these hedges part of operating income, so it resulted in a big loss. WFC stock also trades at more than 14x earnings, and that’s a stretch for the stock, historically speaking.
I’d wait for a pullback.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance. He has 20 years’ experience in the stock market, and has written more than 1,200 articles on investing. He also is the Manager of the forthcoming Liberty Portfolio. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com. As of this writing, he did not hold a position in any of the aforementioned securities.
