3 Bank Stocks to Buy Ahead of Earnings From Deutsche
NEW YORK ( TheStreet) --Large-cap banks will likely display checkered results in the third quarter, with strong mortgage origination and decent trading activity boosting revenues, while lower interest rates, tightening credit spreads and slowing pace of credit quality improvements could dampen the bottomline.
In a report published Monday, Deutsche Bank analyst Matt O'Connor highlighted some of the key themes for the third quarter.
One significant item for universal and investment banks such as Bank of America (BAC) , JPMorgan Chase (JPM) and Goldman Sachs (GS) would be an accounting loss stemming from a tightening of credit spreads on U.S. bank bonds.
An accounting quirk called a debit-valuation adjustment allows banks to book a profit when the value of their bonds fall as technically it means they can buy back their debt at a lower rate. When market confidence improves and the value of bonds rise, banks, conversely, book a loss.
Regulators are considering removing this controversial accounting provision according to press reports, but for now, the results are likely to swayed by this rule.
Net interest margin pressure is likely to be another dominant theme, according to the report. While banks may not be readily passing on lower rates to borrowers- at least, not as much as the Fed would like- they still face a significant reinvestment risk in a low yield environment. Banks with heavy investments in mortgage-backed securities also face the risk that borrowers will prepay their loans.
On the positive side, the analyst notes the modest loan growth, decent trading activity on a year-on-year basis, and continuing credit improvement.
He expects fewer mortgage putback surprises. This report was published before federal regulators filed a lawsuit against JPMorgan, alleging that its Bear Stearns unit defrauded investors in the sale of residential mortgage-backed securities.
New York Attorney General Eric Schneiderman has warned that more cases could be filed against other big banks, so the threat of further lawsuits still looms over the banks.
Here is a look at three big bank stocks that are well positioned for third quarter, according to Deutsche Bank's O' Connor.
Shares of Fifth Third Bancorp (FITB) are up 23% in 2012 but it still trades at a 10% discount to peers on 2013 earnings, according to O'Connor.
This is despite the fact that the bank has consistently above average return on equity, above-average capital with its Basel 3 Tier One ratio at 9% versus 8% for peers, a higher dividend yield of 2.6% and a higher-quality earnings stream , the analyst notes.
The Fed recently approved a 25% increase to its dividend after denying it earlier this year. It also received permission to buy back $ 600 million in stock, which was more than what analysts were expecting.