Why Big Banks’ Stocks Look Too Cheap to Ignore

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Stocks in the financial sector were trading higher along with the broader market early Tuesday, following advances in Europe and Asia as panic recedes. Nonetheless, the biggest banks still look cheap, even as questions remain about the industry.

Barron’s said as much this weekend. We highlighted the low levels of risky assets on the biggest players’ balance sheets and the lenders’ safe dividends, noting they contrast with the low valuations that have resulted from selloffs across the sector.

DataTrek Research’s co-founder Nicholas Colas made a similar point on Tuesday morning. He noted that the

SPDR S&P Regional Banking

ETF (ticker: KRE) and the

SPDR S&P Bank

ETF (KBE) are down 25% and 23.5%, respectively, since the start of 2020—a period in which the

S&P 500

has risen 22.3%—even as dividend payouts of both have increased by double digits.

Not only does that seem to paint too pessimistic a picture for the stocks, he said, but it means that even if stricter stress tests and higher capital requirements force lenders to cut their dividends by 15% to 20%, that would only put payout levels back to where they were before the pandemic.

Of course, the biggest banks are those that look best shielded from the trouble in the industry. Unlike the banks that have failed in recent weeks, they have diverse depositor bases and an array of assets that limit the damage from losses in their fixed-income portfolios that have resulted from higher interest rates.

Nor, as Barron’s noted this weekend, are bad loans widespread across the industry, as they were in the 2008-2009 financial crisis. Banks are stronger now, thank in large part to stress tests such as the Comprehensive Capital Analysis and Review that came in response to that debacle.

Of course, big banks’ stocks aren’t likely to surge right away, given that failures of additional small banks could hit the headlines, even as the outlook for interest-rate increases by the Federal Reserve remains unclear. An additional concern, as Colas noted, is some banks’ holdings of commercial real estate loans, given continuing low occupancy rates at offices.

The possibility that stress-test results due in June could derail some lenders’ plans to return capital to shareholders via dividends and share buybacks is another risk that is weighing on the stocks, Colas said.

Nonetheless it is hard to ignore the valuations. Colas’s colleague Jessica Rabe noted that basically all the big banks, including

JPMorgan Chase

(JPM), Citigroup (C),

Wells Fargo

(WFC),

Bank of America

(BAC) and

Goldman Sachs Group

(GS) are trailing behind the financial sector and the broader market in terms of their price gains so far this year. The stocks also trade well below 10 times the per-share earnings expected for the coming year, she said.

“Almost all the banks on our list are cheaper than both the Financials sector and the S&P,” Rabe wrote. “Large cap Financials are the second cheapest sector in the S&P behind Energy.”

The big banks may not see as much of a bounce as smaller banks if their stress-test results allow them to keep handing cash back to investors, given the latter’s inherently higher risks. But for jittery investors, they look like one of the safest places in the sector.

Write to Teresa Rivas at [email protected]