Q1 2015 U.S. Banking Roundup: Price-To-Book Ratios

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The first quarter of 2015 was a largely positive period for U.S. banks, with investors remaining optimistic about a hike in benchmark interest rates by the Federal Reserve over the coming months. Once the pressure on the banks’ interest margins eases, the sector will witness a notable improvement in profitability. Banks have been forced to implement stringent cost management measures in recent years to offset the overall reduction in revenues. The task of achieving these cuts while adhering to stricter regulatory requirements – and also working through an enormous legal overhang at the same time – has been a steep one for the industry.

Given the fact that the shares of nearly all banks have regained the value they lost in the wake of the downturn, the banks have done a great job in helping investors regain confidence in them. However, share price improvements have not been uniform across 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 five 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 Q1 2015
U.S. Bancorp 164.6% 174.4% 202.8% 207.3% 209.3% 206.5% 195.7% 207.3% 196.7%
Wells Fargo 111.9% 123.7% 154.0% 170.3% 163.2% 168.6% 164.4% 170.3% 166.4%
Goldman Sachs 69.4% 88.2% 116.3% 118.9% 105.9% 105.8% 113.8% 118.9% 111.6%
Morgan Stanley 48.2% 62.4% 97.1% 112.1% 96.3% 96.6% 101.2% 112.1% 105.6%
JPMorgan 71.4% 85.8% 109.8% 109.7% 112.3% 103.8% 103.2% 109.7% 104.9%
Citigroup 43.3% 64.3% 79.8% 81.8% 71.9% 70.6% 77.2% 81.8% 77.1%
Bank of America 27.7% 57.4% 75.2% 83.9% 82.9% 72.6% 81.1% 83.9% 71.1%

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 around 75% 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. Also note that as share prices for each of the banks was lower at the end of Q1 2015 compared to the figure at the end of Q4 2014, the P/B ratio for each of the bank shrunk sequentially.

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. The P/B ratio improved to almost 84% by the end of 2014, as 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. But the bank’s shares took a beating over the first quarter as it reported an operating performance which was much worse than its peers – resulting in the P/B ratio falling to just 71%. As a result, Bank of America fell to the last spot among these five banks in terms of P/B ratio after faring better than Citigroup over the Q1 2014-Q4 2014 period. As the bank 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 book value of just under $22 by late 2016.

Citigroup has faced a similar fate as 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 in early 2013 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. The figure dipped slightly to 77% by the end of Q1 2015.

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 around 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, Goldman and Morgan Stanley have fluctuated around their book values, while shares of Bank of America and Citigroup remain well below their book value.

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