Wells Fargo (NYSE:WFC) stock is one of this year’s worst offenders among big money center bank stocks and that’s saying something. The widely followed KBW Bank Index is lower by 34% year-to-date, but Wells Fargo is off 55%.
An obvious thorn in the side of Wells Fargo investors is the relationship between banking equities and interest rates. The financial services sectors usually benefits from higher interest rates and is plagued by declining borrowing costs.
With the novel coronavirus weighing on the U.S. economy, the Federal Reserve took rates to historical lows earlier this year.
Lower rates depress banks’ net interest margins – the spread between the interest taken in on loans and paid out to depositors. However, that’s not the only factor making Wells Fargo an unappealing near- to medium-term bet.
On the back of disappointing second-quarter results, Wells Fargo slashed its quarterly dividend from 51 cents to 10 cents. Following the dividend cuts delivered in the wake of the global financial crisis, banks were impressive payout growers, but the Federal Reserve nixed the idea of buybacks and dividend hikes following its most recent stress test.
Plenty of Other Challenges
As if the low interest environment and inability to raise dividends aren’t enough to way on bank stocks, there’s the fragility of the economy at the hands Covid-19. In the second quarter, Wells Fargo and its peers set aside more capital to cover sour loans because, in weak economic climates, borrowers are more apt to default on things like car loans and credit card bills.
Investors looking for a silver lining with Wells Fargo stock right now can take some heart in knowing that management is acting prudently with the dividend cut and loan loss reserves, painful as those moves are over the near-term.
“Fundamentals remain particularly pressured at WFC, but we are encouraged by management’s decisive actions on capital and credit, and an emerging commitment to tackle Wells’ lagging returns via expense efficiencies,” said Evercore ISI analyst John Pancari in a recent note to clients.
Making the hard choices now can benefit investors over the long term, but Wells Fargo still faces reputational challenges, which come of its own doing. Although leadership at the company and Wall Street mostly applauded the appointment of CEO Charles Scharf, every few years, this bank seems to do something to draw the ire of politicians.
More than a decade ago, Wells Fargo was chided for its role in the mortgage crisis. In 2013, it was the cross-selling scandal where some personal bankers in Southern California signed customers up for other accounts and products without their consent.
It’d be reasonable to think Wells Fargo would have learned about the importance of customer consent, but according to at least two senators, that doesn’t appear to be the case. Recently, the bank put some customers’ mortgages into a forbearance program designed to help borrowers avoid foreclosure in the wake of the coronavirus.
In theory, that’s a nice thing to do, if the customer wants to participate. However, media reports suggest customers placed into the program arrived there without consent and now their credit reports are suffering because of “missed” payments on loans the borrowers could have serviced.
Bottom Line on Wells Fargo Stock
Yes, Wells Fargo stock is inexpensive. It’s currently valued at just 80% of tangible book value – a discount to peers. Over the long haul, the bank should be able to generate at least 14% returns on tangible equity, which would be one of the better percentages in its peer group.
Additionally, the bank is either in the top spot or second place for deposit gathering in 40% of its markets and its customers are remarkably devoted.
Those are all positive traits, but in a slow economy with a scant dividend and essentially no chance of higher interest rates prior to 2023, Wells Fargo stock isn’t the name to embrace today.
Todd Shriber has been an InvestorPlace contributor since 2014. As of this writing, he did not hold a position in any of the aforementioned securities.