Portfolio manager Eric Boyce of Hester Capital Management talks about great stock-buying opportunities every morning when he meets with his fellow investment professionals in their Austin offices. But they aren't lured by bank stocks, even though once blue-chip institutions, including Citigroup and Bank of America, are trading like penny stocks.
If there's a new wave of credit losses, Boyce says, "The government might take some of these banks over, just like it did Fannie (Mae) and Freddie (Mac)."
Lots of people share Boyce's aversion to banks, even though the sector has fallen 66% over the last 12 months. "Investors are concerned that their shares will be diluted further," says Samuel Hayes, professor of finance emeritus at Harvard Business School.
Several banks hold assets that are made up of complex securities — including home mortgages — that have either plunged in value or are too hard to assess. And the likelihood of additional consumer and commercial loan losses at these severely weakened banks rises as the U.S. recession deepens, putting millions of people out of work.
Citi cstock, at $3.55, is off 86% in the last 12 months to levels not seen since the early 1990s. And BofA bac, at $6.50, is down 84% and close to a 16-year low.
What's more, the banks cut dividends to a penny per common share when each issued preferred stock to the government for its cash infusions of $45 billion each. The government collects annual dividends of 8% and 10%.
"A classic reason why people invest in bank stocks is for the dividends, and now that's gone," says Cassandra Toroian, chief investment officer at Bell Rock Capital.
Now there's a growing view that federal officials will have to take control of Citi or BofA if either needs additional capital from the government. That could drive the stock price to zero.
One telltale sign is the value that shareholders have put on the banks. Citi has a market capitalization of $18 billion, and BofA's at $30 billion — in both cases, less than the amount of the government's investments.
"It reflects that the market doesn't believe these banks are solvent, despite all the cash that has been injected into them," says Thomas Cooley, dean of the New York University's Stern School of Business.
The recent stream of devastating losses from financial companies contributes to the fear that the worst is not over yet. General Electric, which has a huge financial arm, said on Friday that it wrote off $10 billion in bad loans in 2008.
"We expect both the commercial and the consumer delinquencies to continue to get worse in 2009," CFO Keith Sherin told analysts in a conference call.
PNC Financial Services also sounded downbeat last week when it said that charges related to its recent purchase of National City contributed to a loss for the fourth quarter. PNC has set aside as much as $500 million to cover credit losses.
Almost all banks — from giants JPMorgan Chase to comparative small fry including SunTrust Bank and KeyCorp — are doubling the amount of cash they're holding to cover losses.
"Last year, we saw the de facto bankruptcy of the largest mortgage broker, Countrywide, and the largest buyer of securities, Fannie and Freddie," says Sean Egan, managing director of ratings agency Egan-Jones. "Now the train wreck is moving through the rest of the financial sector."
Many investors fear that even comparatively solid banks such as JPMorgan Chase jpm and Wells Fargo wfc will be hit with additional asset problems following their marriages with, respectively, Washington Mutual and Wachovia.
"The assets are made up of complex securities distributed internationally, which are impossible to unwind, which is what makes this financial crisis so knotty," says Egan.
Treasury Secretary Timothy Geithner said last week that President Obama's administration plans to "stabilize the core of the financial system."
Geithner said that dealing with the so-called toxic assets was key to solving the financial mess. He also plans to help banks expand lending for car and student loans, credit cards and small businesses.
However, critics say that could drive consumers to borrow more than they can handle. "It's like force-feeding Twinkies to somebody who is on a diet," says Peter Schiff, president of Euro Pacific Capital.
Meanwhile, Hester Capital's Boyce says that he will wait. "There's no doubt that banks look cheap, but we're waiting for a catalyst."