After the year-to-date rally, the overall market is approaching overvalued territory. However, the financial sector offers value after a disappointing first half. During the regional banking crisis, some of the best financial stocks declined sharply as investors threw out the baby with the bath water.
The sell-off in banks after the collapse of Silicon Valley Bank created some real opportunities. Indiscriminate selling of strong financial stocks with rock-solid balance sheets and plenty of liquidity left them trading at discounts to book value. However, second-quarter earnings have shown that the banking sector has stabilized and is healthy. Also, other industries in the sector caught up in the turmoil have recovered well.
Although the sector has recovered from its lows, there are pockets of value. Entering 2023, most banks were already undervalued due to predictions of a slowing economy and a potential recession. Then, the banking crisis widened the discount to the overall market.
So far, the economy has been resilient and more economists are predicting a soft landing. These projections bode well for the financial sector. Besides, while the S&P 500 trades at a forward P/E of 20, the sector trades at 14 times forward multiple. The following financial stock picks are rock-solid financial institutions that can provide capital appreciation.
Bank of America (BAC)
As the second largest bank in the U.S., Bank of America (NYSE:BAC) is one of the best financial stocks to buy in August. It boasts one of the best retail banking franchises in the United States. Additionally, it owns Merrill Lynch, a leading brokerage and advisory firm.
After getting caught up in the banking turmoil, it has yet to recover to the highs achieved in November 2022. Yet, it is in the strongest financial position ever, with ample capital and liquidity. Moreover, operating results continue to impress.
Second quarter results highlighted its strong operating results and balance sheet strength. It earned $7.4 billion after tax in the quarter, with EPS growing 21% year-over-year (YOY). It was the eighth consecutive quarter of operating leverage.
Earnings across all the segments were impressive. The Consumer segment achieved its eighteenth consecutive quarter of positive net new checking account growth, adding 157,000 new accounts. In addition, the Global Wealth segment added 12,000 net new relationships.
While investors have been wary of balance sheets, that’s not an issue at Bank of America. Its common equity Tier 1 ratio improved to 11.6% in the quarter. Additionally, the bank had $867 billion in global liquidity sources at quarter end.
Another issue for banks has been office real estate credit exposure. Bank of America is insulated in this area. Overall, it has manageable risk as these loans represent under 2% of total loans.
Based on book value, it is one of the best financial stocks to buy in August. As of June 30, book value per common share was $32.05. Therefore as of this writing, it trades discount to book value. As one of the best banking franchises, BAC stock deserves a premium to book value.
Charles Schwab (SCHW)
In the brokerage industry, Charles Schwab (NYSE:SCHW) has been one of the top financial investments. It has built trust among clients by maintaining a low-cost platform that provides immense value. It carries the lowest operating costs and passes on most of these cost savings to customers through lower charges.
As a result, Schwab doesn’t charge commissions on trading. Instead, it sweeps idle cash in customer brokerage accounts into its bank accounts and invests. Thus, it profits on the interest rate spread between what it earns on the idle deposits and what it pays customers.
Through this strategy, the company has amassed over 360 billion in deposits. The firm has grown its operating income from $1.6 billion in 2012 to $9.7 billion in 2022. After eliminating trading commissions in 2019, it now relies primarily on net interest income revenue.
During the bank turmoil in March, Schwab shares fell hard on deposit flight fears. Indeed, if customers began paying attention to what they were earning on their cash, it would be a problem. Investors were worried that earnings would suffer as deposits fled to money market funds.
But Charles Schwab proved its resilience, and the fears were overblown. In the first quarter – including the crisis period in March – it added $132 billion of core net new assets. The momentum continued in the second quarter of FY2023 with an additional $52 billion.
Also, it appears cash sorting – clients transferring cash out of low-interest rate accounts into higher-yielding assets – fears were overblown. As these fears abate, expect a rebound in one of the best financial stocks in the brokerage industry.
Brown & Brown (BRO)
Insurance companies face a challenging period with increasing costs, especially in the property and casualty segment. Instead of looking for value in the insurers, it might be better to look at the brokers. Brown & Brown (NYSE:BRO) is the sixth-largest insurance broker in the world and offers value.
Insurance brokers are the perfect middleman business. They sell and negotiate insurance on behalf of clients for a fee. They earn commissions without risking their capital or bearing insurance risk. Indeed, considering these recurring revenues, insurance brokers are some of the best financial stocks to buy.
Brown & Brown has been a growth engine over the past several years. The broker has pursued growth through acquisitions and expansion into niche markets. Then it works on consolidating these acquisitions and lowering costs and increasing earnings.
Revenues have grown from $2 billion in FY2018 to 3.5 billion in FY2022. During the same period, EPS increased from $1.22 to $2.37. Recently the company reported an excellent quarter, with revenues rising 24.7% YOY to $1.04 billion. Commissions and fees grew by 23.5%. Adjusted EPS increased 55% to $0.68.
Management also said they expect the momentum to continue “We delivered another outstanding quarter of strong and profitable growth. This performance capped off a great first half of the year with significant momentum going into the second half.” J. Powell Brown, president and CEO, noted.
Brown & Brown’s growth trajectory is intact as it continues its accretive acquisition strategy. The trend continued with six acquisitions in the most recent quarter. These acquisitions represent an addition of $24 million in annual revenues. Moreover, revenues will grow as premiums increase at the economic growth rate as asset prices rise in nominal terms.
On the date of publication, Charles Munyi did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
