The financial services sector is still recovering its reputation in the wake of the Great Recession. Many Americans still don’t trust the banking industry and low interest rates have caused investors to have second thoughts about buying even the best bank stocks.
But the banking industry is making a comeback, thanks to some new consumer-friendly policies, a return to profitability and rising interest rates. Do individual bank stocks belong in your portfolio? Sure, but it depends on the type of investment you want. Prefer high growth and no taxable events? Finding the best bank stocks might not be on the top of your list. But if you’re looking for value and income, the financial services sector deserves a close inspection.
Best Bank Stocks:
- JPMorgan Chase (JPM)
- U.S. Bancorp (USB)
- Citigroup (C)
- Fifth Third Bancorp (FITB)
- KeyCorp (KEY)
What Are Bank Stocks?
If you’re like most investors, your first encounter with a bank took place in your own home — with a piggy bank. Unlike a piggy bank, modern banks do so much more than hold your cash, and banks are some of the oldest institutions in the world. Current titans like JPMorgan Chase and Goldman Sachs have been in business for well over 100 years.
They loan to creditworthy borrowers, create debt markets and enable borrowers to access funds they can’t otherwise obtain. Banks charge interest on the loans they issue, which is how they earn a majority of their profits.
Since banks are only required to hold a small portion of capital compared to their liabilities (known as the fractional banking system), large banks are required to undergo stress tests to gauge their response to a potential catastrophe.
What to Look for in a Banking Industry Stock
Banks are not all the same. Just like any other sector of the stock market, banks are a mixed bag when it comes to corporate citizenship and transparent leadership. As you choose bank stocks for your portfolio, keep these three concepts top-of-mind.
Price-to-book value. The price-to-book value measures the price of a company’s stock against the liquidation value of the firm’s assets. For value investors, low price-to-book ratios could mean a stock is undervalued and due for a resurgence.
Bank stocks traditionally have lower-than-average price-to-book values. For large bank stocks, look for a price-to-book ratio between 1 and 2. For smaller regional banks, a price-to-book ratio under 1 could signal an undervalued stock. Price-to-book value is one of Warren Buffett’s favorite ratios to look for in a stock.
High-dividend yield. Banks don’t do much research and development, so profits are often returned to shareholders in the form of dividends. If a bank offers a dividend yield that continually grows over the years, it’s a sign the bank’s profits are increasing. Increased profits results in more money in the pockets of shareholders. Bank stocks are often a favorite among value investors because of the income they provide through dividends.
Return On Assets (ROA). Return on assets (ROA) is a better measure than the return on equity (ROE) for banks because it enables easy comparisons between companies in the sector. ROA is determined by dividing net income by total assets. For the banking industry, a ROA over 1% is considered a strong number.
Best Bank Stocks to Watch Out for This Year
Interest rates have been trending up for the first time since the Great Recession and many banks are poised to profit on such increases. The banking sector might not enjoy the recent bull market as much as the tech or healthcare sectors, but there’s reason to believe that banks are currently undervalued. Benzinga has picked 5 bank stocks to add to your brokerage account in 2019.
JPMorgan Chase (JPM)
Price-to-book value: 1.63
Dividend yield: 2.89%
Return on assets: 1.25%
JPMorgan Chase is one of the oldest institutions in the United States and operates in 4 different areas: consumer banking, investment banking, commercial banking and wealth management.
JPMorgan Chase has exceeded earnings estimates in 3 of the last 4 quarters and its stock has greatly outperformed the industry as a whole over the last 5 years (91.5% gain for JPM vs 44% for XLF, the Financial Services Sector ETF). JPMorgan Chase has also raised its dividend for 8 consecutive years.
U.S. Bancorp (USB)
Price-to-book value: 1.78
Dividend yield: 2.85%
Return on assets: 1.51%
U.S. Bancorp is tiny compared to JPMorgan Chase, but the regional Midwestern firm still has an $80 billion market cap and strong future prospects. Like JPMorgan Chase, U.S. Bancorp is on an 8-year streak of raising its dividend and has met or exceeded earnings expectations in each of the last 4 quarters.
U.S. Bancorp recently introduced an array of new (and unique) digital tools for homebuyers looking for mortgages, home equity loans and HELOCs. The P/E ratio of 12.15 is highest for this selected group of bank stocks, but U.S. Bancorp is a stock worth holding in 2019.
Price-to-Book Value: 0.83
Dividend Yield: 2.77%
Return on Assets: 1.01%
Citigroup is coming off 4 consecutive earnings beats, yet still has a price-to-book value under 0.90 and a P/E ratio of 9.31. By these metrics, Citigroup stock looks cheap and might deserve a spot in your portfolio. The firm has raised dividends for 4 consecutive years now and seems to have shaken off the stench of the massive bailout it received in 2008.
The dividend yield here is lower than the other stocks on this list, but Citigroup seems to be getting unfairly punished at the moment. There’s strong upside potential here if Citigroup posts another earnings beat in July.
Fifth Third Bancorp (FITB)
Price-to-Book Value: 0.96
Dividend Yield: 3.22%
Return on Assets: 1.24%
Massive national banks aren’t the only ones that deserve attention. Small regional banks like Fifth Third Bancorp often have more room to run and the numbers here look solid. The bank reported year-over-year quarterly earnings growth of 10.6% and has topped earnings estimates in each of the last 4 quarters.
It’s only posted 2 years of dividend growth, but the yield is strong and the 0.96 price-to-book value and 8.73 P/E ratio show an underappreciated stock.
Price-to-Book Value: 1.16
Dividend Yield: 4.07%
Return on Assets: 1.33%
Tiny KeyCorp, which operates KeyBank, might be the biggest winner from this group in the future. Despite only a $16 billion market cap, the dividend yield is very generous and has now grown for 8 consecutive years. KeyCorp has a great ROA number despite its small size and cheap price-to-book value. The firm has met or exceeded earnings expectations in 3 of the last 4 quarters (only missed by 3 cents in 2019 Q1), yet has trailed the returns of XLF for the last 6 months. In our opinion, KeyCorp is primed for a breakout.
Choose the Best Bank Stocks for Your Portfolio
Bank stocks have been a favorite of Warren Buffett for decades and a rise in interest rates could catapult them back into favored status. Recovery from the 2008 financial meltdown has been slow and many investors still don’t trust the banks that happily bought up worthless mortgage bonds during the crisis.
Don’t miss out on this beaten-down sector, which could offer hidden gold, especially when banks have favorable fundamentals like the 5 listed above. Bank stocks right now are on sale and it might be wise to scoop up these deals.
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