Could Regional Banks Lead the Road Ahead?

10/01/2008 11:00 am EST

Focus: STOCKS

Mark Fightmaster

Financial Analyst, Schaeffer's Investment Research, Inc.

Mark Fightmaster of Schaeffer’s Research, provides a contrarian view of some regional banks.

I could not pass up a recent Barron's headline article, which promised "Where to Put Your Money Now—Not all financial stocks are created equal. Here's what to buy—and avoid." I was particularly intrigued when the article turned its focus to regional banks, namely Wells Fargo (NYSE: WFC) and PNC Financial (NYSE: PNC). Barron's believes that WFC and PNC (along with US Bancorp (NYSE: USB) should all be avoided, although they have shown strength during the financial turmoil. Interesting assessment, and one that piqued my interest.

The article asserts that these banks could be "undermined by the Treasury's proposal to throw a safety net under the $3.4-trillion money-market-fund industry, which competes aggressively with banks for retail and institutional deposits and typically pays higher interest rates than banks. The main banking trade group was very unhappy with the government money-fund plan." Which regional banking stocks does the article suggest? Bank of New York (NYSE: BK) and State Street (NYSE: STT), which both focus on financial processing and asset management. Furthermore, these two "have come down hard this year and now trade at historically low valuations."

Contrarian Takeaway:

Those of you familiar with our Monday Morning Outlook should recall that we are bullish on financials, and WFC and PNC are among the stocks we like in the sector. Why? Despite the fact that PNC has gained more than 20% year-to-date, option players are extremely bearish toward the firm. How bearish? PNC's Schaeffer's put/call open interest ratio (SOIR) of 2.27 is 4% away from an annual peak, and 8 of the 12 analysts tracking the firm rate it a "hold." As for WFC, its SOIR ranks in the 79th percentile, and 11 of the 15 analysts following it rate it a "hold." Both of these stocks could enjoy a swing to the bullish side of the sentiment spectrum … leading the stocks higher still.

As for State Street, the stock had a rough end of the week a couple of weeks ago. Moreover, the sentiment toward STT is more bullish than either PNC or WFC. STT's SOIR of 0.93 ranks in the 46th percentile, and six of the ten analysts tracking the bank rate it a "buy" or better. There is too much potential downside for STT, especially once the sentiment catches up with poor year-to-date performance (a loss of 25.5%).

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