Hate to disagree with the really smart guys in this thread, but banks are valued on both PE and price to tangible book. It’s a weird dance as some are valued on one metric and others on the other based on what’s the sentiment on that particular bank. I think super large banks have been on book lately, but this isn’t true if all the Financials that sold off. There are banks trading at huge price to book multiples but reasonable PE, because if your growing fast that growth in earnings will increase book. But the big banks normally don’t grow faster than the market (over simplification)
“analysts fall back on PB as the sole measure of bank valuation” - guy who has read maybe 300 bank research reports over the last 8 years, me.
non-analysts may talk about P/Es, and some analysts may mention P/Es, but in the “Valuation” section at the bottom of the report, it’s P/B all the way. sometimes, and only more recently due to the change in how the market views bank stocks due to higher regulatory risk following 2008, they’ll also incorporate a DCF but never, and i mean never, is valuation and TP based on P/E. Earnings are far too easily manipulated and affected by expected and unexpected regulatory charges and so it’s much easier for analysts to track book value as opposed to earnings and it creates an easier benchmark to track for outsiders.
Isn’t effective interest yeild a hot measure of profitability for banks? Probably have the name of the metric wrong but you get my gist.
I am not a bank analyst because when I was considering analyzing banks, their balance sheets looked too difficult to value objectively. It may be that with toxic assets either TARPed away or maturing, banks are now easier to value.
The easier case might be thrifts and banks with very simple balance sheets, but in that case, I would suspect that the market is highly efficient at pricing those and don’t think I’d have any real advantage.
This. There is one valuation metric for banks, and it’s book relative to ROE generation currently / potential ROE generation. That’s all.
It’s similar to how you would not value an internet business on book and/or a cap-lite service business on book. It doesn’t make sense. You would use P/E or EV/Sales.
People are free to do as they wish of course but it’s a market and if the market is looking at one metric and you’re looking at another, then you are unlikely to be a better buyer than the market imo.
People look at homebuilders on P/E sometimes too but that doesn’t mean it’s the right metric (it’s not, it’s horribly wrong). You should be looking at NAV.
Maybe you guys think that’s the way it works, but I’m telling you it’s not that uniform. Maybe if you only look at the top 5 largest banks, but I spend a ton of time in this space across the micro, mid, large cap, talk to some of the largest buyside people who invest in this exclusively in this space, and it’s just not as easy as saying that.
Bro is right that people care about ROE, but having a low ROE isn’t necessarily bad if you have a high ROA (the metric that eliminates capital structure and used by lots of bank analysts). A low ROE but great ROA means the bank has ‘excess capital’, which is a common investable theme. BOFI trades at 3.6x TBV. It doesn’t trade 3.6x book because it’s valued on book (depending on the day, it may be the highest book multiple in the space). But it’s valued that way beacuse of its crazy profitabiltiy (ROA) combined with growth in the earnings. But genreally when people talk about investing in banks, they aren’t thinking the $6 billion (asset not market cap) weird internet bank.
For the OP, this is a good summary: http://people.stern.nyu.edu/adamodar/pdfiles/papers/finfirm09.pdf
the consensus valuation measure is most important. P/BV is the consensus valuation measure. P/E is much less useful. maybe ROA would help but it’s more part of the qualitative discussion than the TP determination process.
heck, you can value Facebook based on EV/EBITDA or the DDM if you want but you’ll be the only one.
This raises an interesting point about what does it mean to value a company. If you take a Buffet-like approach, the value is basically about the value of current assets, plus the value of reasonably likely future expected profits in excess of the depreciation of current assets and capex required to sustain and/or grow operations. I.e. the money put in today at that value will come back to you in the form of balance sheet appreciation and profits over the long term. That really is what a DDM tries to do, and other things like Residual income or EVA.
On th eother hand, people say they use comps to value companies, but what they generally mean there is just "well, people stop buying selling when the multiple gets to this kind of number, and start again when it gets down to here, and in the middle it’s a little more momentum-y. But this isn’t really valuation… it’s just trading psychology.
You can make plenty of money on trading psychology if your model - intuitive or formal - is in sync with the zeitgeist of the time (I use the term zeitgeist, because these things can change from decade to decade), but it isn’t really a valuation.
My favorite valuation method is pro forma adjusted EBITDAOPEXCOGS, also known as revenue. I just add everything back all the time and then most stocks look cheap. Sometimes I also just add some revenue because why not? I’m an optimistic guy. I am, however, the only person in the world to do these things, so sometimes the market disagrees with me. It also gets me in trouble with chonrically money losing businesses, companies that have no revenue, and asset heavy businesses but I just ignore that and do my thing. Biotechs are so cheap right now if you use EBITDAOPEXCOGS, buy the dip! I’m a value investor!
^who hacked ur sh!t
analysts use comps to determine relative valuation not absolute valuation as finding relative value is by far their #1 job duty. no financials analyst is going to say “all bank stocks are $hit based on historic valuations, go buy technology”. they’ll say “buy C because its excessively cheap relative to JPM and WFC”. and if C is expensive too, they’ll initiate coverage on something else and say “buy regional bank XYZ because its way cheaper than C, JPM and WFC”. analyst reports only really help you when you’ve already committed to investing in a specific sector.
it’s the investment strategist’s and sometimes the economist’s job to discern sectoral valuation.
after further thought, i don’t think what i just wrote applies much to what you said but i’ll leave it out here anyway.
“Mr. Madison, what you’ve just said is one of the most insanely idiotic things I have ever heard. At no point in your rambling, incoherent response were you even close to anything that could be considered a rational thought. Everyone in this room is now dumber for having listened to it. I award you no points, and may God have mercy on your soul.”
I agree with your point. And especially when you point out this: “no financials analyst is going to say ‘all bank stocks are $hit based on historic valuations, go buy technology’”
Given that the analyst is usually being asked about what the bank’s value should be, and can’t say “it’s crap”, it then shifts to a relative valuation, which - as I was saying - isn’t really a valuation so much as a kind of ranking. But we start to think of it as a genuine valuation because it was given (and accepted) as the answer to a question about valuation.
…ok Financials are a train wreck this morning. Really? They have not priced in a lack of a rate hike YET? Enlighten me. Which bank metrics have been suffering so bad that lack of a rate hike is basically the end of the world?
Have you been following other news today?
here and there, what else is of concern other than job report? (…Of course treasuries are insane, but I lump that in with all things related to the jobs data)
You don’t think that the increasing possibility that a stock correction (or bear market, if you are in that camp) has spilled into the real economy is enough to spook bank owners?
Not only does it appear to push the date for a fed hike much farther back in the future, but it also suggest that there may be slow growth and an uptick in credit events, both of which diminish the value of many bank assets.
Banks are in a strange spot, admittedly. On the one hand, they generally need a growing economy to lever up their profits; on the other hand, a growing economy will likely trigger short term interest rate hikes, which reduce profitability. Basically, economic growth and rates need to rise simultaneously for things to look rosy for banks, and that’s looking like a very hard needle to thread.
It’s a price momentum market. People were following energy lower all the way down even though some of the stocks getting punished have marginal exposure. Biotech could do not wrong because look at those charts that are up and right, and um, “reasons”? Financials is the new game. Economy weak = no rate hike = reduced profit for financials = SELL / SHORT! Company fundamentals don’t matter.
The Fed has severely confused everyone so now there is no trend and people are chasing sector specific trends until there is a clear direction. Energy / industrials / materials are in a depression and healthcare / tech is in a bubble. It’s a very weird market. Less cyclical consumer stocks seem like the best place to be overweight now.
I think most people don’t realize how broken the market is from a dispersion stand point. Yes, we can all look at the indices and see they are down. It’s the underlying that is badly broken now. Is there average industrial or energy company in small caps really worth 40% less than it was a few quarters ago? Obviously not. And please do yourself a favor and don’t buy the dip in biotech, many of these are going to lose another 80-90% of their value from here even after the recent correction.
I wonder if bank earnings in a couple weeks will cause a change in temperment?
It has been interesting watching sectors and individual stock price action since August 24. There is stuff now at the bottom of the dumpster at or under the “flash crash” level. There is also some that I have watched just drift though the mess and find some stability somewhere in between the bottom and top. There are even some examples of rogues that are like “what correction” (JBLU, P, SBUX). So, given that financials already strarted pricing the issues we are coping with now pretty much right after Q2 results (when China started freaking out / reducing chance of rate hike, world recession, bla bla, bla), it seems excessive that they would STILL be under so much pressure. Financials should not be behaving like a bursting bubble like biotech but that is what I am witnessing.
I should have just come out and called this post “buy the hell out of financials… yes or no”
^ the rate hike date being pushed out without a consensus view that we’ll face economic contraction in the near term means that banks get hurt the most. if you’re looking at financials, i’d lean toward insurance as they don’t rely on higher rates as much as banks do currently, this is especially true for P&C.
contraction! bear market! waaaaaaaa…
Here’s what’s going to happen. The charismatic Christian Bale is going to come out in the Big Short in December and inspire everyone to open brokerage accounts and go short the imminent recession causing catastophic sell offs. Its all coming down…l called it.