Bank stocks’ rally this year seems to have slowed to a reversal, but there is still reason for investors to stay: the reliable dividends from banks at a time when income investors lack compelling opportunities.
Just look at last week’s fluctuations in the bond market. The yield on the 10-year government bond fell below 1.2%, the lowest level since mid-February. Although the fall in yields also hurt banking stocks,
SPDR S&P Bank
exchange-traded fund (ticker: KBE) is down 3.5% Monday, the return on the ETF is 2.3%, offering investors both a steady payout and the opportunity for appreciation.
Looking at bank stocks as an income game makes sense in today’s environment. Although government bond yields recovered from their lows earlier this week, there is still little money to be made with a 10-year yield of 1.29% as of Friday morning. Some investors may be tempted to tap into the high-yield market, but the returns aren’t great for the level of risk assumed. The
SPDR Bloomberg Barclays High Yield Bond
ETF (JNK) is currently yielding 4.6%, and while companies have weathered the pandemic well, the historically low returns on non-investment-grade companies may not justify the default risks associated with these bonds.
Enter banks. Not only did the sector emerge largely unscathed from the pandemic, but the largest banks also endured three of the Federal Reserve’s stress tests over a 12-month period — one more than usual — to further prove their sustainability.
|Bank / Ticker||YTD Price Change||P/E ratio||P/TBV||Dividend Yield|
|Citizens Financial Group / CFG||22.0%||9.6||1.3||3.5%|
|M&T Bench / MTB||1.2||11.1||1.6||3.3|
|KeyCorp / KEY||16.8||9||1.4||3.8|
|Fifth Third Bank / FITB||30.0||11||1.6||3.0|
Note: P/TBV=price to material book value
The latest test, the results of which were released in June, was the most interesting for income investors. This is because passing the test meant the Fed would relax pandemic-induced restrictions on capital distributions to shareholders. Last year, the Fed called on banks to temporarily halt share buybacks and ordered them to limit dividend payments to the average of their quarterly earnings from the previous four quarters. The idea was to force banks to save capital to help customers struggling during the pandemic.
Without the restrictions, several banks could have maintained or even increased their payouts to investors last year, which is why so many of the largest banks rushed to announce plans to increase their dividends shortly after the results of the last stress test.
(WFC), for example, doubled their dividends, yielding 3% and 0.9%, respectively.
One way to play the banks would be to invest in the
SPDR S&P Bank ETF
SPDR S&P Regional Banking
ETF (KRE) – both of which yield about 2.3%.
But with bank stocks rallying in a holding pattern – the KBE was up more than 32% and is now around 16% for the year – it may make sense to do some stock selection at the regional banks, many of which offer returns of over 3%.
Citizens Financial Group
(CFG) is one such bank. It currently yields 3.5%, but it has a lot more to offer. The bank, based in Providence, RI, recently announced plans to
Retail business on the East Coast, allowing it to close some of the gaps in its operations in the Northeast and Mid-Atlantic, while gaining a small foothold in Florida.
And for now, acquisitions appear to be part of Citizen’s strategy, as long as the deals make sense, as the bank appears to remain competitive in an increasingly digitized industry.
Banking “is an extremely dynamic industry with a tremendous amount of change,” said Bruce Van Saun, CEO of Citizens Barron’s. “You have to be very agile and future-oriented, know where it’s going and how to position ourselves.”
(MTB) is another bank that offers returns in excess of 3% – 3.3% to be exact – that’s in the midst of a takeover. Buffalo, NY-based bank has announced plans to acquire
People’s United Financial
(PBCT) by the end of the year — a move that will expand its northeast and mid-Atlantic footprint.
While the bank failed to deliver on earnings expectations in the second quarter, partly due to higher costs, the long-term outlook looks attractive, especially as the bank trades at a slight discount to competitors.
“We expect a smooth integration with PBCT with potential top-line synergies over time. While the specter of ‘deal stocks’ may be hovering in the near term, the stock is starting to get more interesting on [around] 1.6 times the tangible book value,” David George, senior research analyst at Baird, wrote in a note Thursday. Peers currently trade at 1.8 times tangible book value, according to data from FactSet.
(KEY) returns 3.8% and stocks are up about 17% this year. In the most recent quarter, results were helped by fee income that offset a decline in net income margins, George said. Costs were stable and net depreciation and amortization decreased by 0.1% – a sharp decline from the first quarter of 2021 and the quarter a year ago. George calls the trade-off between risk and reward balanced, noting that the Cleveland-based bank is well equipped to navigate low interest rates in the coming quarters based on the strength of its investment bank.
Fifth Third Bancorp
(FITB) is another bank well equipped to navigate the low interest rate world, as net interest income grew by 2.7% from the first quarter of 2021. She plans to increase her dividend by 3 cents in the third quarter and buy back $850 million worth of shares in the second half of 2021. Shares of the Alabama-based bank are yielding 3%.
With banking stocks changing little as investors navigate the impact of low bond yields and a lukewarm credit growth environment, there are at least some opportunities in the industry where investors can be paid to wait.
Write to Carleton English at email@example.com