Bank stocks have developed a terrible reputation on Wall Street that they can’t hold their rallies. Consensus also is that they are cheap but a value trap. This is the effect of having central banks meddling with global liquidity since the 2008 financial disaster.
This morning Well Fargo (NYSE:WFC) and JPMorgan (NYSE:JPM) reported earnings and so far investors liked what they saw in JPM, but seem more uncertain about WFC — an early pop in Wells Fargo has since turned negative. This is emblematic of the current opinion among investors. JPM is revered as the best of the best while WFC is the bad-boy poster child of the financials.
WFC deserves its new reputation, as it went from jaw-dropping record reports to jaw-dropping stupidity with their efforts to accomplish those superb results. They have since changed their ways, but it’s hard to shed a reputation like that once the scandal comes out.
Recently, the Wells Fargo CEO Tim Sloan left the company. This should relieve some pressure off WFC stock, as he was locked in a public battle with the outspoken Senator Elizabeth Warren. She has been on a crusade to punish them for their wrongdoing.
Both sides are wrong. The Wells Fargo’s schemes and Warren’s hatred are extremes, and somewhere in the middle lies the truth. But as it fades out of the headlines, the WFC stock price should go back to trading on its own merit.
This leads me to today’s earnings report.
Management delivered a decent quarter, as they beat top and bottom lines. Revenues fell this quarter, but they beat the expectations. They remain optimistic about the customer experience and they see their efforts to mend the fences there as successful.
What worries me a bit is that WFC reported that they are suffering from the flattening yield curve. The U.S. Federal reserve made this worse for banks last year as they hiked short term rates. This shrinks the gap between long-term and short-term rates, thereby reducing how banks can profit on loans. They borrow on short-term rates to lend it out on long term. WFC net interest margin fell to 2.91%.
So is it safe to own Wells Fargo shares? Yes, especially if I want to own them for the long term. I would, however, wait a little while, since banks are notorious for fading earnings pops.
Fundamentally, WFC stock is cheap, as it sells at an 11x trailing price-to-earnings ratio. This is in line with its peers, so that alone is not a reason to own it. The stock also pays a respectable 3.8% dividend, which provides cover for longs while they wait for a lasting recovery.
Technically, WFC stock needs this earnings bounce to hold. Coming into the event, the stock was severely lagging the sector. It was only up 3.6% when the Financial Select Sector SPDR Fund (NYSEARCA:XLF) was up 12% year to date. Moreover, WFC is already facing another bearish pattern that could target $45.50 per share if the pullback after this morning’s pop continues.
So in summary, a lot is riding on the stock action for the next few days. But in general, Well Fargo stock will be a nice one to own for the long term. The short-term gyrations in the stock are mere noise when the overall health of the bank is solid. After all Warren Buffet, who is the best investor of all times, owns it, so it feels safe for me to also own it.
Bottom line, WFC beat top- and bottom-line expectations, so they are executing well on plans. They are also repairing their reputation, which can only help.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him as @racernic on Twitter and Stocktwits.
