With stocks showing a lot of zing, growing numbers of value-minded investors are combing the market relentlessly for undervalued securities. No arguing that strategy, but there's a danger -- namely, putting your bucks into stocks that are going to languish in the bargain basement. So watch out!
The big-name bank stocks -- notably Citibank, First Chicago, Continental Illinois and BankAmerica -- well could be such investment dogs.
At first glance, stocks of leading money-center banks seem enticing despite the negative impact of rising interest rates and prospects of higher corporate and personal bankruptcies in a slowing business climate. Some top brokerage firms, in fact, are pushing these stocks. They're sporting paltry price-earnings multiples (5 and 6), book values are well below market values and, over the past six and seven months, they've trailed the market badly. And in a recessionary-type environment, 1980 bank earnings -- reflecting a surge in 1979 loans that will spill over into this year -- should look good with gains of roughly 6 percent to 9 percent.
Doesn't sound like too bad an investment, right?
Wrong, says one of Wall Street's best bank analysts -- Bache Halsey Stuart's George Salem. He says the performance of bank stocks hinges on the movement of short-term interest rates. And in the absence of a material decline in interest rates, bank stocks cannot perform well.
In brief, as Salem explains it, short-term rates represent the cost of money to the banks; the higher the rates, the higher the cost to banks. About 80 percent of a bank's gross revenue is contingent on the spread between its money costs and its yield on assets (mostly loans). The wider the spread, the higher the profits. But this spread is narrowing because the maturity (due date) of bank liabilities is shorter than the maturity of assets.
"Imagine banks paying 13 to 14 percent on their certificates of deposit and lending out money long term at 8 to 9 percent," says Salem. "Just imagine how under water those loans are . . ."
Salem is concerned that interest rates will go higher before they come down.
Further, he's worried that rates could remain high longer than expected and that the ultimate low point will be higher than anticipated.
His reasoning: The long-awaited recession will be delayed because of a stronger-than-expected economy. Consequently the Federal Reserve, in an attempt to temper the stubborn high rate of inflation, will be forced to prolong a tight monetary policy. And that would be bad news for bank earnings.
Salem hastens to point out that he hasn't finalized his conclusions on interest rates, but he's leaning to the view that money will remain tight. And if that's the case and you're a near-term investor (for the remainder of 1980), "you've got to sell the bank stocks because they'll be deadbeats," he says.
Although Salem's message is clear -- beware of bank stocks generally -- he sees a number of regional banks bucking the trend because of a stronger economic climate in their territories. In this context, he favors five of them -- all of which, he believe, should show an average earnings gain of 15 percent this year vs. the 7 percent rise he's projecting for the banking fraternity.
The five whose stocks, in Salem's opinion, have the potential to show a 30 percent gain over the next 12 months are First International Bancshares, Texas Commerce Bancshares and Southwest Bancshares (all in Texas), Barnett Banks of Florida and Salem's favorite bank stock, West Coast-based Western Bancorp.
Whatever you bought for your loved one for Valentine's Day -- be it the traditional heart-shaped box of chocolates or a nightgown -- you undoubtedly have concluded painfully that the widely publicized rate of inflation (13.3 percent in the consumer price index) is a crock. The cost of that gift probably is making you see red.
Thanks to some digging by my friend Ray DeVoe, the investment strategist at Bruns, Nordeman, Rea & Co., we're going to tell you how much more Valentine's Day is costing you this year than last. Would you believe (based on a sampling of 12 items featured in this column) that your token of affection is up over 22 percent? That (ugh) is 67 percent above the CPI. And if you include the increase in a one-ounce gold charm ($714.50, vs. $247 a year ago), the average cost of a gift for the love of your life has skyrocketed 170 percent above the CPI.