| NEW YORK, March 15
NEW YORK, March 15 In the carnage of the
U.S. financial crisis, a familiar refrain echoed throughout Wall
Street as the stock market tried to recover: "The market needs
the banks for a healthy rally."
But since the 2008-2009 meltdown on Wall Street, stocks have
done just fine even as bank shares remain far below their
Still, the release of the Federal Reserve's annual stress
test - first announced by JP Morgan Chase during
Tuesday's trading - kicked off a strong rally that investors say
could reestablish the banks as a leading sector after several
years of following the market.
"The financials have been such a drag on the whole market
for the last couple of years," said Larry Peruzzi, senior equity
trader at Cabrera Capital Markets Inc in Boston.
"They're lending money, they're making money...it's the
whole multiplier effect. Very few sectors you get that from, and
that's what really drives the whole market."
When the credit crunch hit in 2008, banks plunged. The S&P
500 bottomed out at 12-year lows in March 2009 and the S&P
financial index fell to just 8.9 percent of the overall
S&P's market value, compared with a 20.1 percent weighting when
the benchmark S&P hit an all-time high in October of 2007.
The idea is that since banks lend a multiple of the money
they hold on hand, better financial health for those
institutions helps markets. When banking and credit freezes,
it's hard for the market to advance.
But the recovery rally since the 2008-2009 meltdown on Wall
Street has proceeded even as banks saw ups and downs. The S&P
500 is at levels not seen since June 2008 and the Dow recently
closed at its highest level since December 2007.
Tech is part of the reason: Technology stocks are worth more
than at the market's heights in 2007. Banks, meanwhile, have
only managed to recoup 30 percent of the massive losses incurred
since the market peaked.
The banks now count for 14.5 percent of market
capitalization, up from 8.9 percent at the 2009 low.
KEEP BUYING BANKS
Financials appear to have room for a sustained advance. The
price-to-book ratio - which measures a company's stock price
with the value of all of the company's assets - of the KBW Bank
Index currently stands at 0.92 and 0.96 for the S&P
financial index. For most of the last decade,
the ratio for those indexes was over 2.
That level may not be reached anytime soon given
ongoing concerns about exposure to Europe and increased
But the U.S. Federal Reserve's stress tests may bolster
investor confidence for months to come. JPMorgan Chase & Co
, generally considered one of the healthiest U.S. banks,
currently holds a price-to-book ratio of 0.9.
"Financials are an integral part of, not only the health of
our economy but the role they play in our indexes," said Ken
Polcari, Managing Director, ICAP Equities in New York.
FOCUS ON THE REGIONALS
Regional financial companies may offer some of the more
compelling values in the sector.
"I've liked (regional) banks for a while, and the stress
tests provide another layer of confidence for investors in these
stocks" by showing that the financial sector as a whole is
stable, said Don Wordell, portfolio manager of the $2.2 billion
RidgeWorth Mid-Cap Value Equity fund (SMVTX).
He holds large positions in Fifth Third Bancorp and
Lazard. Fifth Third, in particular, has seen the
performance of its mortgage portfolio in Michigan increase,
noted Maclovio Pina, an analyst at Morningstar. The company
trades at a price to earnings ratio of 12.2, making it slightly
cheaper than the roughly 13 times earnings multiple of the broad
S&P 500 index.
The industry may also be on the edge of a "wave of
above-normal, small-bank consolidation," brought on by improving
confidence in the financial sector and new regulatory
requirements, said David Trone, an analyst at JMP Securities.
Trone estimates that some 400 institutions need to repay a
total of nearly $8 billion in outstanding loans from the
Troubled Asset Relief Program. That, he said, will likely lead
to an additional $165 million in fees for KBW, a leading
mergers and acquisitions firm.
For a broad bet on the regional banking sector, consider an
exchange traded fund like the SPDR S&P Regional Banking ETF
(KRE). The fund, which holds 50 regional banks with
roughly equal weights, costs 35 cents per $100 invested and
yields 1.6 percent. Popular Inc is its
largest holding, with 2.2 percent of assets.
KEEP AN EYE ON TECH
Some argue financials are no longer the most important to
markets, having been surpassed by technology because of its role
in business expansion and operations. Bank of America-Merrill
Lynch analysts said in a note to clients the sector is "the best
way to gain broad exposure to secular growth."
Many have attributed the continued climb in technology
stocks to the surge in Apple Inc, which has a
50-day correlation of 0.94 with the S&P 500. But tech has done
well overall. For one thing, the sector is much less volatile
when looking at earnings.
BofA-Merrill analysts note that tech earnings volatility has
dipped substantially from the early part of the last decade.
Earnings risk has increased in sectors that were considered
staid, like financials.
If the bloom in the technology space continues, some
analysts believe financials may not need to re-take their perch
as leaders in order for stocks to move higher.
"They don't need to strap the other 85 percent of the market
to their back, they just need to pull their weight, and that
will be plenty fine," said Phil Orlando, chief equity market
strategist at Federated Investors in New York.