Financial stocks have not fared too well in 2020. The obvious culprit is the novel coronavirus, which sent waves of disruption throughout the economy. That disruption wasn’t contained to just the domestic economy either, as the entire world suffered.
But bank stocks were uniquely positioned to underperform.
First, for a simple observation, they are stocks. The U.S. stock market was annihilated in the first quarter of 2020, as the coronavirus sparked panic and fear and stoked concerns over liquidity. That caused a massive decline in various markets.
However, while the market has bounced back, banks have lagged. Even more recently, the group has shown real weakness compared to the broader market’s dip.
That’s because the banks are tied to the economy. If the economy does poorly, they do poorly. The companies also have to contend with low interest rates, which saps net interest margins and hurt returns. Rising rates may be seen as a negative for investors, but oftentimes can be a positives for the banks.
As Eric R. Brisker, associate professor of finance at The University of Akron, puts it:
“A low interest rate climate hurts savers and lenders who now earn a low rate of return on their savings, especially savings invested in lower risk assets (i.e., government securities, money market accounts, etc.). This often encourages savers to put their savings into higher risk assets that pay a higher rate of return which can lead to frothy markets over time. This problem becomes worst especially in cases where rates are kept extremely low for a long period of time.”
Here are seven financial stocks struggling in our low-rate environment:
- Bank of America (NYSE:BAC)
- JPMorgan (NYSE:JPM)
- Wells Fargo (NYSE:WFC)
- Citigroup (NYSE:C)
- U.S. Bancorp (NYSE:USB)
- Deutsche Bank (NYSE:DB)
- Barclays (NYSE:BCS)
Finally, because of the uncertainty, the Federal Reserve has forced banks to pause stock buybacks and not raise their dividends. The latter makes financial stocks less attractive to investors and the former removes a big buyer of the underlying security.
Financial Stocks Set to Struggle: Bank of America (BAC)
Bank of America is one of investors’ favorite bank holdings. It’s also one of Americans’ favorite banks to hold their deposits. When the Federal Deposit Insurance Corp (FDIC) totaled its summary of deposits for 2019, BofA led the list.
The bank holds $1.365 trillion in deposits, which grew 2.9% year-over-year. That’s also good for 10.65% of the market share. The next two banks on the list also own more than 10% market share, so it’s not as if Bank of America is alone in its pain.
Still, it’s the largest deposit holder in the country and that means that falling interest rates are going to be a problem for Bank of America.
When rates shrink and the yield curve contracts, it puts pressure on margins. Last quarter, Bank of America saw revenue contract about 3.4% year-over-year and net interest income slump 11%. That’s not horribly. However, earnings slumped 50% year-over-year.
Without added stimulus from the government, investors have reason to be worried about the banks and the economy going forward. However, the Fed’s recent commentary about keeping rates low for years may make it harder for banks too.
For Bank of America and many others, it simply lacks positive catalysts at the moment.
Like Bank of America, JPMorgan is one of investors’ favorite financial stocks. However, most regard it as the highest-quality bank stock.
As such, it commands a premium valuation. While most other big bank stocks and investment banks trade with a price-to-book ratio below 1.00, JPMorgan trades at 1.23. While that’s down from its reading north of 1.75 at the start of the year, it’s still a premium compared to its peers.
On a forward price-to-earnings measure, JPMorgan is again the most premium name on the list. That is, with the exception of Wells Fargo — the next name on this list — due to analysts’ forecast for plunging profits.
For JPMorgan, the company had a year-over-year decline in deposits for 2019, ending with $1.311 trillion. With its $288 billion market cap and strong leadership under Jamie Dimon, investors feel secure with this best-in-breed name, even if lower rates are a hindrance.
Those investors can rest assured that if the banking industry does rebound, JPMorgan stock should be a leader on the way up. Likewise though, it will likely struggle if this group can’t find any momentum.
Wells Fargo (WFC)
Unlike BofA and JPMorgan, Wells Fargo has not been an investor favorite. Like them though, it is the last of the big three banks with a 10% or more market share of American deposits. Unfortunately, things haven’t really gone in Wells Fargo’s favor the last few years.
Its issues are regulatory related and have really put CEO Charlie Scharf in a difficult position. Scharf, the former CEO of Visa (NYSE:V), has been trying to turn Wells Fargo around.
Obviously the Covid-19 pandemic isn’t doing Wells Fargo any favors, either. If the banks are going to suffer, we already know Wells Fargo isn’t going to thrive. Over the past year, JPMorgan and Bank of America are down 21.2% and 19.5%, respectively. Wells Fargo? Down more than 52%.
Wells Fargo lags its peers (beyond the two named above) in stock performance over the last six months, year to date, three years and five years.
The one single attraction for Wells Fargo was its dividend, but with the payout axed to from 51 cents down to just 10 cents per quarter, there’s not much to love at the moment. If this group is going down, Wells Fargo likely will too.
Citigroup has been championed by investors for years. They argue that its valuation, dividend and stock buybacks make it an optimal long position.
Even still, the bank commands a wildly low valuation. Its price-to-tangible-book value sits at just 0.59. The next lowest valuation among larger peers is Wells Fargo, at 0.76. When it comes to price-to-earnings ratios, Citigroup trades at just 7.26 times. That too is the lowest among its peers.
Here’s the good news: Citigroup still commands a lofty dividend yield at 4.8%, and its valuation is cheaper than cheap.
However, the bad news is that these catalysts didn’t help the stock very much before the selloff. Shares are down 47% on the year, outpaced only by Wells Fargo and notably worse than BofA and JPMorgan. The fact that Citigroup couldn’t hold up as well as its peers isn’t a good sign if the group doesn’t come back in favor.
Unfortunately, if financial stocks are set to struggle, so too is Citigroup.
U.S. Bancorp (USB)
U.S. Bancorp should be on investors’ shortlist of struggling financial stocks.
With concerns over the longevity of the economic recovery, lingering low interest rates and a stock market that’s starting to roll over, bank stocks are not on solid footing. With U.S. Bancorp’s recent decline, shares are hitting multi-month lows.
Well-known bank analyst Dick Bove had some interesting commentary after the industry’s second-quarter results. He reasoned that trading activity and debt and equity underwriting are driving business right now.
Bove argues that these trends are not sustainable. Specifically, he named U.S. Bancorp among a few of the banks that are likely to “suffer from weaker earnings for the rest of the year.”
One other thing that doesn’t help? The market cap. While a $53 billion company is not exactly small, U.S. Bancorp is not huge compared to some of Wall Street’s heaviest hitters in the banking industry.
That’s going to make U.S. Bancorp a tough long should financial stocks really start to suffer.
Deutsche Bank (DB)
Venturing outside of the U.S. highlights even more startling weakness on the financial front. Take Deutsche Bank for instance.
This bank is not like JPMorgan or Bank of America, where financials are solid and the balance sheet robust. However, Deutsche Bank did rally aggressively at the start of the year, surging almost 50% from late December to mid-February.
Even though the stock had yet another impressive rebound from its coronavirus lows in March — temporarily doubling from $5 to more than $10 — it’s back under pressure.
Deutsche Bank has a bevy of difficult headwinds, which includes its lackluster financials and low interest rates. However, it also includes operating in a weaker economy than that of the U.S.
While U.S. bank stocks are under pressure, European bank stocks are back to the lows from the Great Recession. That’s not a good sign. Heck, Deutsche Bank stock is more than 50% below its lows from 2009. There are red flags left and right with this one now.
Not only is the group lagging its U.S. peers, it also doesn’t have the strength of the U.S. economy to prop it up. The ensuing rebound will likely be weaker and have less longevity, further limiting the upside of European banks like Deutsche Bank.
Barclays is based in London and it too has had a difficult run. Shares are down 12.3% over the past week and almost 19% in the last month. The stock has tanked more than 50% so far in the year.
Unlike Deutsche Bank, Barclays has not yet taken out its 2009 low, but it is far from thriving at the moment. In fact, shares are down more than 73% from the 2012 high.
Again, doing business outside of the U.S. is not doing this company any favors. At least for Citigroup, JPMorgan and others, housing remains strong and the economy has had a sharp rebound that has promise of continuing.
Europe is a bit more questionable. Another thing that makes Europe a tough place for financial stocks? The interest rates are even lower than in the U.S. and in some instances, rates are negative!
So while the banking sector will not be obsolete, Barclays isn’t the first place I’d look to deploy capital. As such, if financials are going to suffer, this one likely will too.
On the date of publication, Bret Kenwell did not have (either directly or indirectly) any positions in any of the securities mentioned in this article.