Wells Fargo (NYSE:WFC) had a terrible 2020. And that was on top of a string of underwhelming years even before then. Add it up, and Wells Fargo became one of the least-trustworthy banking stocks for many people. Yet, despite the brutal road WFC stock has gone down, it’s quietly surging back to life.
Shares bottomed at $21 last fall. Now, in just three months, WFC stock is up 50%, and trades around the $33 mark. That’s still down dramatically from the $45 or so that it went for prior to the novel coronavirus pandemic. However, the bulls are clearly back in the saddle at Wells Fargo. What has changed, and does this turnaround have sticking power? Read on.
Recovering From Past Scandals
There are two problems plaguing WFC stock right now. The first is Covid-19, which sent all the national banks into a tailspin.
On top of that, however, Wells Fargo is still dealing with the fallout from its aggressive account-opening scandals from few years ago. Regulators have the company in the penalty box, as it faces an asset cap and other limitations on its ability to operate and grow its business.
What the market was missing – at least until recently – is that Wells Fargo is now making progress on fixing these past errors. And the people that matter are taking notice. For example, this past week, the Office of the Comptroller of the Currency (OCC) lifted its consent order against Wells Fargo relating to its anti-money laundering program. This regulatory block was in place since 2015, adding significant cost to Wells Fargo’s operational and legal compliance efforts.
Now, however, the OCC is pleased with Wells Fargo’s remediation efforts and is letting the bank operate more freely once again. As Wells Fargo’s CEO Charlie Scharf put it:
“Building the right risk and control infrastructure and remediating our legacy issues remain our top priority, and the termination of this consent order is evidence of our progress.”
The bank still has much farther to go. Arguably the biggest issue is the $2 trillion asset cap. This keeps Wells from expanding significantly until the Federal Reserve is pleased with the bank’s improved compliance efforts. However, once you start getting regulators such as the OCC on board, it makes it easier to convince the rest as well.
An Earnings Giant
In recent pre-Covid years, Wells Fargo traditionally earned around $4/share in earnings. This continued even after the scandals broke, as the corporate tax cut added in profits which largely offset the losses due to the scandals and higher operational costs.
However, in a world without those added legal costs, Wells Fargo would have been making $5/share per year, or more. Slap a mere 10x P/E on that normal level of earnings, and you had a $50 stock. At the time, WFC stock paid a generous dividend as well.
With Covid-19, however, the picture changed. The bank slashed its dividend, and meanwhile 2020 earnings were badly disappointing. It’s becoming increasingly clear, however, the Covid-19 is not going to have a dramatic long-term impact on banking sector profitability. While there is some short-term pain associated with bad loans, interest rates are now surging thanks to all the government stimulus efforts.
This, in turn, should make banks more profitable than they were prior to Covid-19 once the economy has recovered. Meanwhile, Wells Fargo is making significant progress on its internal turnaround program. The OCC giving Wells Fargo the all-clear is a concrete indicator of that.
WFC Stock Verdict
Wells Fargo’s stock has already advanced a lot off of the lows. I get that. Particularly for an unloved bank stock such as this one, people might not want to chase the rally. And to be sure, shares might pull back in coming weeks. After a move this sharp, a little profit-taking wouldn’t be too surprising.
In the bigger picture, however, Wells Fargo has plenty of juice left in the tank. You could easily make the case that the bank was dramatically undervalued prior to the pandemic. Based on its normalized earnings once the scandals are taken care of, you should have $5 or $6 per share of annual earnings. Throw a 12x-14x P/E ratio on that, and the stock is somewhere in the $60-$80 ballpark.
While Covid-19 certainly altered this timeline, it doesn’t appear to have made a major long-term impact on Wells Fargo’s value. The bank has not suffered the catastrophic losses that the skeptics had projected. And now things are recovering surprisingly quickly.
On the date of publication, Ian Bezek held a long position in WFC stock.
Ian Bezek has written more than 1,000 articles for InvestorPlace.com and Seeking Alpha. He also worked as a Junior Analyst for Kerrisdale Capital, a $300 million New York City-based hedge fund. You can reach him on Twitter at @irbezek.
