By Russell Pearlman, contributor
FORTUNE -- Disaster and misbehavior have dominated recent headlines about big banks. Whether it's multibillion-dollar trading losses (J.P. Morgan Chase), a settlement for rigging interest rates (Barclays), a Senate report asserting money laundering for drug cartels (HSBC), or assorted bad press for Standard Chartered, Capital One, Wells Fargo, and others, some financial giants seem bent on returning their reputations to the darkest lows of 2008. Little surprise, then, that the KBW index of bank stocks has slipped 7.3% since April, while the broader market has been flat.
It's not just the news. Investors fear that Dodd-Frank reforms, which require holding more capital and limit certain trading, will squeeze profits. Meanwhile, many banks are still taking losses on pre-crash mortgages, and interest rates are near historic lows. Yes, that means banks can get away with paying 0.05% on a savings account. It also means they can't lend money at high rates.
As investors flee, a few intrepid souls are buying. Value investor Bill Nygren, manager of the Oakmark Fund, now has 23% of his $6.2 billion portfolio in financial stocks, according to fund research firm Morningstar. He already had a stake, but bought more as bank shares faltered in recent months. Some share prices, he says, are "assuming that the worst recession since the Great Depression will happen every five years or so." For example, Nygren thinks J.P. Morgan's (JPM) annual profits could jump 50% by 2014 as interest rates eventually rise and the mortgage mess recedes. Even if that doesn't happen, JPM's stock is trading for nine times its last 12 months of profits. If the bank achieves its expected earnings of $5.23 a share next year and returns to its five-year average price/earnings ratio of 15, the stock price would double, to $75.
Like JPM, other banks with headaches have gotten stronger. Wells Fargo (WFC) (which agreed to pay $175 million in July to settle a federal fair-lending case, but denied wrongdoing) scooped up Wachovia during the financial crisis and has demonstrated "strong performance in a weak market," as Morningstar's Jim Sinegal put it in a recent note. He praised Wells' fundamentals, such as attracting deposits and making loans. With a P/E of 11, it's less of a bargain than JPM, but boasts a higher return on equity and little exposure to the mess in Europe, says Jim Kee, president of South Texas Money Management, which oversees $2 billion and recently bought Wells shares.
Capital One Financial (COF) (which in July agreed to a $210 million settlement for deceptive marketing of credit-protection products) bought ING's U.S. online bank and HSBC's (HBC) credit card unit. Capital One has a P/E of 9, a bargain given its expected $6 in earnings per share this year and the fact that its credit card revenue continues to climb even as Americans charge less.
The next year may be dicey for banks, says portfolio manager Adam Scheiner of RBC Global Asset. But much of the recent bad news won't be harmful (or remembered) over the long run, analysts contend. The worst effects of the housing bust are slowly ebbing, and interest rates will climb at some point, making loans more profitable. Long term, Scheiner says, there's a compelling case for big banks.
This story is from the September 3, 2012 issue of Fortune.
The hedge fund manager who called the crash continues to struggle in the recovery.
No one will ever call it his greatest trade ever. The worst? Maybe not.
John Paulson, the hedge fund manager who made billions betting against housing in 2007 and 2008, sold much of his stakes in the nation's largest financial firms in late-2011, missing this year's large rally in those stocks. Shares of Bank of America (BAC) and MOREStephen Gandel, senior editor - Feb 15, 2012 1:06 PM ET
Shares have fallen 50% since February. Is this a buying opportunity, or do they have further to go? A bear and a bull face off.
Interviews by Anne VanderMey, reporter
FORTUNE -- The bull: David Hilder, Senior Analyst, Susquehanna Financial Group
Morgan Stanley (MS) has a great global investment-banking franchise and the largest retail brokerage force in the U.S. At some point, in a more robust economic environment, that franchise is going to generate a MOREOct 25, 2011 5:00 AM ET
Robosigning and euro fears be damned. Goldman Sachs is bullish on the bank stocks.
On Wednesday the investment firm released its top five trading ideas for 2011. The ideas – two each in equities and fixed income, and one in commodities – aim to help clients cash in on what Goldman expects will be an accelerating global economic recovery.
The top idea, shorting the dollar against the Chinese yuan via a derivative MOREColin Barr - Dec 1, 2010 2:58 PM ET
Investors looking to avoid the national banks' foreclosure troubles should consider some smaller contenders.
America's biggest banks are still dogged by record defaults on their giant portfolios of credit card and home loans, and the storm over foreclosures could delay their efforts to move troubled mortgages off their books. For now, regional banks offer less risk and more opportunity. Here are two that weathered the financial crisis in strong shape, boast MOREShawn Tully, senior editor-at-large - Nov 2, 2010 3:00 AM ET
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