Bank Stocks Are Facing Headwinds
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By RANDALL SMITH / WSJ / Jan 3, 2011
Bank stocks regained their footing in 2010 for the first time in four years as loan losses declined, an economic recovery began to improve returns on assets and the government exited from the big-banking business.
From 2007 to 2009, investors posted a loss of 66% on stocks of banks in the Standard & Poor's 500-stock index, counting dividends, while losses from the broader market were only 16%, as stocks recovered from the steep drop of 2008, according to S&P data. Last year, bank stocks outperformed the broader market, returning 20% compared with 15% for the S&P 500 as a whole.
Still, some analysts aren't banking on a quick return to the heady pre-meltdown days. The banking industry's new reality includes a regulatory squeeze on various revenue streams, skeptical investors and relatively few opportunities for growth.
"We're not back to normal because loan growth is still going to be weak at best or down," says Moshe Orenbuch, who follows banks at Credit Suisse Group. Unemployment, he adds, is likely to exceed 8.5% for the entire year, which could be a further drag on bank stocks.
Despite the broad 2010 recovery, some of the biggest names in the business underperformed. While Citigroup Inc. stock soared 44% on a profit rebound and completion of the sale of a big stake by the U.S. government, J.P. Morgan Chase & Co. rose a paltry 1.3%. Bank of America Corp. went the other direction, sinking 12%.
J.P. Morgan and Bank of America were both hit in the spring by concerns that sovereign-debt risk in Europe could wash ashore in the U.S. Next came regulatory changes that curb profits from trading and consumer fees. Then investor demands mounted for some big banks to repurchase billions of dollars in flawed mortgages, especially after questionable foreclosure procedures came to light in the fall.
By contrast, Wells Fargo & Co. and U.S. Bancorp, which both focus on retail banking and don't have the same kind exposure to securities underwriting and trading, rose 14% and 20%.
Banks have been rising since Thanksgiving on signs the economy is "not going to double dip" into recession, said Gerard Cassidy of RBC Capital Markets.
Some analysts say the banks have room to rise after trailing the market for so long, especially since some fundamentals, such as loan losses, are on the mend. Chris Kotowski of Oppenheimer & Co., notes new problem loans peaked at $55.2 billion in the second quarter of 2009 and had fallen to less than half that amount in the third quarter of 2010. Bank stocks are "extraordinarily cheap given how well-developed and visible the turn in credit quality and the economy has become," Mr. Kotowski said.
Other tailwinds for 2011 include the prospect of restored or rising dividends, an expected shift to modest loan growth, and rising interest rates, which boost the returns banks receive for their loans and other assets.
Adding to recent interest have been the acquisitions of regional banks Marshall & Ilsley Corp. in Milwaukee for $4.1 billion and Whitney Holding Corp. in New Orleans for $1.5 billion.
Some analysts and investors wave a caution flag. Keefe Bruyette & Woods, which specializes in bank research, downgraded big banks to "market weight" from "overweight" late in 2010. In a December report, KBW chief equity strategist Frederick Cannon warned of the "slow pace of the U.S. economic recovery and weak loan growth."
Mr. Cannon says that while banks look cheap based on their book value compared with the late 1990s and the middle of the past decade, he doesn't think they will be as profitable post-financial crisis as they were then, and they look "expensive relative to recent history" at more than 15 times expected 2011 earnings.
"I don't think financials are going to lead us in 2011," said Matt McCormick, a bank analyst and portfolio manager at Bahl & Gaynor Investment Counsel of Cincinnati, which manages $3 billion but owns few U.S. banks. "Banks can only sell off so many noncore assets or take off so many loan-loss reserves" to boost profits, yet still suffer from a subprime hangover and will be limited in their dividend payments, Mr. McCormick added. He prefers Canadian banks, which didn't suffer from subprime excesses and already pay dividends of 3% to 4%.
Steven Thogmartin, a partner in the U.S. retail banking practice at Boston Consulting Group, estimates regulatory changes curbing fees for bank-account overdrafts and debit-card interchange will cut U.S. consumer-deposit revenue, which tops $100 billion, by more than $20 billion. Partly as a result, he predicts "lower profits for average performers."
Credit Suisse's Mr. Ohrenbuch says banks have to figure out how to recoup some of that lost revenue from customers. |
