Big Banks Will Battle Back

10/15/2007 12:00 am EST

Focus: MARKETS

John Dessauer

President, John Dessauer Investments, Inc.

John Dessauer, editor of John Dessauer’s Investor’s World, says two large banks will recover from recession fears and the subprime mortgage mess.

Size and diversification did not prevent a drop in share prices for America’s biggest and best banks. [Still], I expect to see all of our banks recover as the mortgage market recovers.

Regions Financial (NYSE: RF) was downgraded to sell last month by a Merrill Lynch analyst. From my experience, the smart move is to buy when Merrill Lynch is selling. Regions’ management says the merger with AmSouth is ahead of plan. Management now sees $250 million in savings this year and has already realized $135 million in cost savings. The total savings is expected to be $500 million, or roughly 70 cents a share, by the second quarter of next year.

Regions deliberately slowed loan growth before the credit crunch materialized. That now looks like a brilliant move. The credit quality of Regions’ loan portfolio is relatively high. That means fewer loan losses. Now, with the Fed’s rate cuts, Regions will be able to grow its loan portfolio without sacrificing credit quality. Earnings estimates for this year are $2.73 a share, so the stock is trading at [around] 11x current estimates. Current 2008 estimates of $2.90 are likely to be raised, indicating a 12-month potential [target price] of $40. (The stock closed Friday below $30—Editor.) Add in the $1.44 dividend, and our 12-month total return could reach 40%. Regions Financial is a Buy.

South Financial Group (NASDAQ: TSFG) has many things in its favor. First, some shareholders with substantial stock holdings are demanding the board take steps to sell the bank. They are frustrated at the stock price and recent earnings decline. South Financial has had its share of challenges, including a fraudulent real estate scheme in North Carolina, but over the last four quarters, deposits have grown at a 15.6% rate, mostly in the form of jumbo CDs. Non-interest bearing deposits declined. That was a negative for the bank’s cost of funds before the rate cuts in September.

Now, lower rates help South Financial. Estimates for this year are $1.22 a share, down from $1.49 in 2006. In my view, management has a couple of quarters to get earnings going in the right direction before pressure for a sale or merger becomes irresistible. Management has long claimed that the bank’s credit quality is above average. With the Florida real estate slump in full bloom, that will now be tested. One way or the other, I expect to see the stock back above $30 within 12 months. (It closed below $23 Friday—Editor.) South Financial is a Buy.

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