Banking 101
It’s easy to forget what makes most banks tick after the issues of the last several years. There was an old adage about bankers, that they lived on threes and sixes. The traditional banker was thought to pay 3% on deposits, lend money at 6%, and play golf at 3 PM.
Today the core of banking is still deposit gathering and lending. However, there are many complications to the business like fair lending rules, financial oversight, fee regulations, and more. That being said, deposits and loans are still an important measure of a bank’s health, and by these measures, Wells Fargo & Co (NYSE:WFC) has some issues.
It’s not always deposit growth, but what types of deposit are growing
In banking, there is one simple rule, checking accounts are more important than any other type of account. The reason is simple, generally speaking checking accounts are non-interest bearing, and this is the cheapest source of funds. Since the bank also collects fee income from these accounts, they are highly profitable.
The problem at Wells Fargo & Co (NYSE:WFC) is, the company’s deposit growth isn’t mainly coming from checking accounts. On the surface, the company’s total deposit growth of 6.36% looks good. By comparison, BB&T Corporation (NYSE:BBT) reported 4.7% deposit growth, JPMorgan Chase & Co. (NYSE:JPM) reported deposits up 7%, and Bank of America Corp (NYSE:BAC) saw deposits climb 4.38%.
However, once you get past the overall numbers, there is a difference in how these companies grew. Of BB&T Corporation (NYSE:BBT)’s total deposits, about 37.13% come from money markets and savings, versus 39% at Bank of America. JPMorgan Chase & Co. (NYSE:JPM) reported a higher percentage, with 51.87% of their total deposits coming from money market and savings accounts. However, Wells Fargo & Co (NYSE:WFC) beat them all with 54.51% of their total deposits from money market and savings accounts.
The problem is, Wells Fargo is growing their deposits, but this growth is coming from more expensive sources. It’s fine when interest rates are low to see good growth in money markets and savings, but longer-term, you want to see the biggest growth in checking accounts.
If this is a quality institution, you wouldn’t know it by looking at their loans
If Wells Fargo & Co (NYSE:WFC) is a quality institution, you wouldn’t know it looking at the company’s credit quality. While it’s true that Bank of America Corp (NYSE:BAC) has a worse percentage of non-performing loans at 2.53%, Wells Fargo isn’t far behind at 2.44%. The difference between the two is, Bank of America saw their non-performers drop by 17.8% on a year-over-year basis, whereas Wells Fargo & Co (NYSE:WFC) reported a decline of 7.21%.
Looking at JPMorgan and BB&T, their non-performers are already much lower than Wells Fargo. In fact, JPMorgan Chase & Co. (NYSE:JPM)’s non-performers stand at 1.6% of their portfolio, and BB&T Corporation (NYSE:BBT) reported a ratio of just 1.12%. As you can see, Wells Fargo seems to have a problem with their credit quality.
To add even more fuel to the fire, Wells Fargo & Co (NYSE:WFC)’s biggest problems are in its 1-4 family real estate loans. In fact, almost half of the company’s non-performing loans come from this category. When you consider that 4.49% of the company’s loans in this category are non-performing, the company’s heavy push into mortgage lending should worry investors.
Sticking with the credit issue, Wells Fargo also has the lowest coverage ratio of their non-performing loans as well. In the last quarter, JPMorgan Chase & Co. (NYSE:JPM) reported the highest coverage ratio at 179%, followed by BB&T Corporation (NYSE:BBT) at 130%, and Bank of America Corp (NYSE:BAC) at 98.24%. Wells Fargo, on the other hand, reported a coverage ratio of just 88.09%. With a high percentage of past due loans, and the lowest coverage ratio, it’s possible Wells Fargo & Co (NYSE:WFC)’s management may be underestimating their liabilities.
And the stock is overvalued too
If you look at Wells Fargo’s forward P/E ratio of 10.2 compared to BB&T at 10.5, JPMorgan at 8.48, or Bank of America at 12.64, the stock looks fine. Analysts expect Wells to grow earnings by 8.1%, which looks better than JPMorgan Chase & Co. (NYSE:JPM) at 7.03%, but worse than BB&T Corporation (NYSE:BBT) at 8.33%, and Bank of America Corp (NYSE:BAC) at 22%. The company’s yield of over 3% is right in line with BB&T and JPMorgan, and much better than Bank of America. So where is the problem?
The problem is, the company’s book value relative to the share price. By this measure, Wells Fargo is more highly valued than any of their peers. Bank of America sells for just 60.3% of book value, JPMorgan Chase & Co. (NYSE:JPM) sells for about 91%, and BB&T Corporation (NYSE:BBT) sells for 114%. By comparison, Wells Fargo & Co (NYSE:WFC) currently sells for over 133% of book value.
Given that the company has issues in their loan portfolio, and their deposits are coming from more expensive sources than their peers, the current valuation doesn’t seem to make sense. At current prices, investors are saying Wells Fargo is 16% better than BB&T Corporation (NYSE:BBT), 46% better than JPMorgan Chase & Co. (NYSE:JPM), and 120% better than Bank of America Corp (NYSE:BAC). Given this extreme valuation difference, I don’t see how anyone can say Wells Fargo & Co (NYSE:WFC) isn’t overvalued.
Wells Fargo’s dedication to solid, conservative banking helped it vastly outperform its peers during the financial meltdown. Today, Wells is the same great bank as ever, but with its stock trading at a premium to the rest of the industry, is there still room to buy, or is it time to cash in your gains? To help figure out whether Wells Fargo is a buy today, I invite you to download our premium research report from one of The Motley Fool’s top banking analysts. Click here now for instant access to this in-depth take on Wells Fargo & Co (NYSE:WFC).
The article There Is No Question This Stock Is Overvalued originally appeared on Fool.com.
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