Wells Fargo & Co (NYSE:WFC) is trading at price-to-earnings of 10.5, below the industry median of 13.4, which suggests that the stock might be undervalued compared to its peers. But perhaps the simplest reason to be long on Wells Fargo is its management’s superb reputation and its strong fundamentals in every single metric.
Like Warren Buffett (who owns 8.7% of Wells Fargo) says: “it’s better to buy a wonderful company at a fair price than a fair company at a wonderful price.”
Not quite as attractive
Bank of America Corp (NYSE:BAC) appreciated by 58% over the past twelve months, from $7.96 in May 2012 to $12.24 in May 2013.
In spite of the recent improvement in asset quality, strengthening capital ratios, better expense management, and the approval by the Federal Reserve for capital distributions, concerns remain among investors regarding litigation risks related to Countrywide-issued residential mortgage-backed securities. Returns remain constrained by legacy issues, with a large runoff portfolio in home loans (totaling 36% of the company’s total home loans portfolio) and questions that remain open regarding management ability to improve on profitability ratios once these litigation and legacy problems are resolved. These factors call for caution on Bank of America Corp (NYSE:BAC) attractiveness, irrespective of the bullish sentiment within the sector.
Bank of America Corp (NYSE:BAC) trades at a price-to-book ratio of 0.6, but this low multiple is mainly driven by its poor return on equity of just 1.8%, which is well below the industry median of 6.8% and lower than 84% of the 811 companies in its industry. Although some investors remain bullish on Bank of America Corp (NYSE:BAC), I think that there are other companies within the financial industry that offer a more convincing bullish case than Bank of America with the same level of risk.
To sum it up
To summarize, I am bullish on the financial sector and I think that Citigroup Inc (NYSE:C) and Wells Fargo are still trading at attractive prices while Bank of America Corp (NYSE:BAC) looks cheap but exposed to intrinsic risks.
I believe that investors should focus on strong bank franchises that could do well in an environment of rising interest rates (which drive higher net interest margins). I think both Wells Fargo & Co (NYSE:WFC) and Citigroup represent core holdings of a diversified, long-term oriented portfolio. Wells Fargo has a strong domestic franchise while Citigroup has been expanding nicely in emerging economies during the past 20 years.
The article Analyzing 3 Hot Banking Picks originally appeared on Fool.com and is written by Victor Selva.
Victor Selva has no position in any stocks mentioned. The Motley Fool recommends Wells Fargo. The Motley Fool owns shares of Bank of America, Citigroup Inc (NYSE:C) , and Wells Fargo. Victor is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.
