Bank stocks have been hurting of late, but financials - particularly the big banks - have been laggards for years.
The big U.S. banks report second-quarter earnings this week, and it’s expected to be a bloodbath. All six major institutions are anticipating major earnings declines; most are expecting revenue declines too, or modest increases at best. However, given how poorly big bank stocks have performed already this year (the Financial Select Sector SPDR Fund (XLF) is down 23% in 2020), it’s likely that weak Q2 earnings results are baked into their share prices.
But that doesn’t make bank stocks a good value play.
Bank Stocks Consistent Underperformers
While it’s true that the banks, along with energy stocks, have been the worst-performing sector during this relentless pandemic, they were already consistent underperformers prior to COVID-19.
The S&P 500 Bank Industry Index is down 25% in the last year, versus a 7% gain in the S&P 500.
It’s up a mere 2% in the last five years, versus a 55% gain in the S&P 500.
And it’s up 81% in the last 10 years, versus a 195% advance in the S&P 500.
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In other words, bank stocks have been major market laggards for a decade, dating back to the end of the 2008-09 financial crisis. Though most of the big banks have recovered nicely since Great Recession, they’re not growing the way the technology, healthcare or even retail sectors are. That’s why there isn’t a single bank stock recommended in any of our 13 Cabot investment advisories at the moment.
Even if a few banks manage to hurdle their low earnings bars this week and get a nice bounce, it’s likely to be short-lived. All six of America’s largest financial institutions – Bank of America (BAC), Citigroup (C), Goldman Sachs (GS), JPMorgan Chase (JPM), Morgan Stanley (MS), and Wells Fargo (WFC)—are anticipating revenue declines in 2020. Smaller, regional banks aren’t faring any better, and regional bank stocks have similarly underperformed—not one U.S. bank stock with a market cap of more than $1 billion has seen its shares rise even 10% in the last year.
So, with declining revenue through the rest of the year and no history of share price outperformance of late, there’s little reason for even the savviest bargain hunter or value investor to take a flier on most bank stocks.
But that doesn’t mean there aren’t opportunities out there in the world of finance.
Alternative Financials
PayPal (PYPL) is a perfect example. It’s not a bank, of course; it’s the leading online payments company, which houses the increasingly popular Venmo payment application. Because it’s not a physical bank, where customers have to walk in and out, PayPal has been unaffected by COVID, with revenue expected to increase 13.6% this year. As a result, PYPL stock is up an astounding 65% year to date.
Or look at Square (SQ), the mobile payments company that caters to small- and mid-sized businesses. Square, of course, was first known for its little square white dongle that attached to a smartphone or tablet, which, along with the firm’s software, effectively turned the device into an electronic cash register, allowing any sort of merchant to easily collect money from any form of credit or debit card. Today Square offers a wide range of software and hardware products, all designed to empower merchants of any size to serve their customers more effectively.
Shares of Square stock have been rising for years, and have more than doubled already in 2020. Those types of returns, especially in a down market like this year, are why Tim Lutts, Cabot’s Chief Investment Strategist, has long singled out SQ as one of his favorite forever stocks, i.e. stocks to buy and hold “forever” (or at least for a long time).
So while I wouldn’t touch most bank stocks even if this week’s earnings results aren’t as ugly as expected, there are some great, technology-based opportunities in the financial sector. PayPal and Square are a good start.
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