Q4 2014 U.S. Banking Roundup: Price-To-Book Ratios

-7.19%
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44.70
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The U.S. banking sector has undergone significant changes since the economic downturn of 2008, with banks focusing their efforts on revamping their business models as they work through huge legal backlogs. These changes, coupled with a marked improvement in economic conditions and the slew of regulatory changes aimed at strengthening the sector, have helped investors regain confidence in the country’s banking sector. This is evident from the fact that the shares of most banks have regained the value they lost in the wake of the downturn.

However, this improvement has not been uniform for all banks. While some have fared much better than average and have seen their share prices reach historic highs over recent months, a handful are still trading at well below the levels seen in late 2007. In this article, we study the trends in price-to-book (P/B) ratios for the country’s biggest banks since 2011 in an attempt to understand whether the growth was due to tangible improvements in the banks’ balance sheets, or primarily due to a shift in investor sentiment. As the metric compares the share price with the bank’s underlying financial condition (captured by the book value per share), it helps understand whether the shares are being priced too cautiously or too aggressively.

See our full analysis for Bank of AmericaCitigroupJPMorgan Goldman SachsMorgan StanleyWells FargoU.S. Bancorp

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Marked differences between the price of a company’s shares compared to its book value are often a sign of under- or over-valuation. But sometimes, very low P/B ratios may actually be because of serious problems with the company’s business model, whereas high P/B ratios could be due to optimism about the future potential of a company’s business model. The table below shows the P/B ratios for the country’s largest banks at the end of each of the last four years as well as at the end of the last four quarters. The figures are obtained by dividing each bank’s closing share price on the last trading day for the period with the book value per share figure at period end reported by the banks in their respective quarterly SEC filings.

FY 2011 FY 2012 FY 2013 FY 2014 Q1 2014 Q2 2014 Q3 2014 Q4 2014
U.S. Bancorp 164.6% 174.4% 202.8% 207.3% 209.3% 206.5% 195.7% 207.3%
Wells Fargo 111.9% 123.7% 154.0% 170.3% 163.2% 168.6% 164.4% 170.3%
Goldman Sachs 69.4% 88.2% 116.3% 118.9% 105.9% 105.8% 113.8% 118.9%
Morgan Stanley 48.2% 62.4% 97.1% 112.1% 96.3% 96.6% 101.2% 112.1%
JPMorgan 71.4% 85.8% 109.8% 109.7% 112.3% 103.8% 103.2% 109.7%
Bank of America 27.7% 57.4% 75.2% 83.9% 82.9% 72.6% 81.1% 83.9%
Citigroup 43.3% 64.3% 79.8% 81.8% 71.9% 70.6% 77.2% 81.8%

The wide range of P/B ratios for these banks stands out in the table above. While Bank of America (NYSE:BAC) and Citigroup (NYSE:C) trade at just above 80% of their book value, JPMorgan’s (NYSE: JPM) share price hovers around its book value, whereas U.S. Bancorp (NYSE:USB) finds itself at the far end of the spectrum with its shares worth almost double what they are worth on its books.

Bank of America’s stock was trading at less than a third of its book value in late 2011 due to rising fears about the quality of the bank’s loan portfolio, as well as a spurt of high-profile lawsuits. While the bank’s share price has recovered considerably since then, the P/B ratio fell from 83% in Q1 2014 to below 73% in Q2 2014, as concerns about trading revenues, shrinking net interest margins and mortgage-related issues hit its share price. However, the bank’s $17 billion mortgage settlement in mid-August, and the growing optimism about an increase in benchmark interest rates in 2015, helped the share price considerably over the second half of the year – raising the P/B figure to almost 84%. As Bank of America maintains its focus on cutting costs and looks to distribute more capital to shareholders in the near future, we expect its share price to catch up with its $21 book value in early 2016.

Citigroup has faced a similar fate to Bank of America with its slow-off-the-block performance in recent years, and the billions of non-core assets housed under Citi Holdings reducing its value in investors’ eyes. The bank suffered a setback early last year as its capital plans were rejected by the Fed as a part of its stress tests (see Why The Fed Rejected Citigroup’s Capital Plan), because of which its P/B ratio fell from almost 80% at the end of Q4 2013 to under 71% by the end of Q2 2014. But Citigroup’s efforts in clearing its mortgage-related problems, as well as the strong operating performance over the rest of the year, helped its P/B ratio recover to almost 82% by the end of Q4 2014.

JPMorgan Chase and Goldman Sachs have historically been priced close to their book values despite having substantially different business models. While the former’s business model, which was barely affected by the economic downturn, is perceived by investors as stable and mature, the latter elicits strong confidence from investors due to its strength in the investment banking industry. Notably, Morgan Stanley ‘s share price rose past its book value for the first time since the downturn in Q3 2014, with the investment bank seeing a strong rally in its stock since mid-2012 thanks to record performance by its wealth management operations. We expect Morgan Stanley’s shares to continue to gain over coming months owing to its efforts to shore up its balance sheet and improve operating margins.

In sharp contrast to these banks, U.S. Bancorp’s P/B ratio figure is well above 200% as investors love its plain vanilla traditional banking business. The bank’s aggressive acquisition policy has helped it grow its business considerably since the economic downturn, but it remains very balanced in the banking services it offers – something that acts as an additional hedging policy to an already risk-averse business model.

The graph below summarizes the performance of these banks’ shares over the last 52-week period compared to their book values. Each bar represents the range at which shares of a particular bank have traded over the last 52 weeks (the 52-week high and low values) and the dot shows the book value relative to the market price range. The banks have been rearranged in terms of book value. The graph demonstrates the aforementioned observation that shares of U.S. Bancorp and Wells Fargo have consistently traded at a premium to their book values, shares of JPMorgan and Goldman have fluctuated around their book values, while shares of Bank of America and Citigroup remain well below their book value.

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