When to Buy Bank Stocks

While bank stock prices get pummeled as the industry battles a two-headed monster of unending write-offs and a possible recession, the question that's on everyone's mind is, "Is it time to start buying?"

In the name of everything that's holy, wait!
News items involving Bear Stearns, IndyMac, the Federal Reserve, Lehman Brothers, Fannie Mae, and Freddie Mac have been depressing stock prices. Meanwhile, subprime loan debt is still spreading through the financial system like a crack in a windshield. We don't yet know the extent to which debt infected by the crisis has infiltrated the balance sheets of financial companies worldwide; every quarter, look no further than the banks that continue to write off astronomical sums. As a result, they must reserve an ever-increasing amount of cash to cover present and future losses.

This is devouring cash once used for activities -- namely, repurchases and dividend payments -- that boost stock values. In addition, as cash reserves are depleted, financial companies such as Wachovia (NYSE: WB  ) , Morgan Stanley (NYSE: MS  ) , Merrill Lynch (NYSE: MER  ) , and MBIA (NYSE: MBI  ) have been receiving cash infusions from outside sources. As desperation for this cash continues, more banks will be forced to cut their dividends, thus making their yields lower.

So buy already
What a mess! But take heart. We've been down this road before, sort of. During the savings-and-loan crisis of 1990 and the Long-Term Capital Management crisis of 1998, financial stocks dropped 50% and 32%, respectively, from their highs. Over the next two years, these stocks rose 50% from the bottom.

That's great! If someone could kindly direct me to the bottom, I'll enrich myself. Where is the bottom? It's hard to tell when banks are still announcing massive write-offs, slashing dividends, and raising capital.

But things change fast. Now is the time to pick your stocks and set your price. The best way to invest is to calmly and analytically map out your strategy ahead of time. Don't wait and try to make intelligent decisions in the midst of an emotional whirlwind dictated by the market.

The opportunity to buy the highest-quality companies on the cheap in an industry essential to the function of capitalism in the United States is quite rare. Buying companies such as Wells Fargo (NYSE: WFC  ) , Bank of America (NYSE: BAC  ) , and US Bancorp (NYSE: USB  ) when no one else wants them has proved to materially affect the long-term returns of a portfolio. When the dust settles, you just might have a chance to make the investments of a lifetime.

Further Foolishness:

Anand Chokkavelu updated this article, originally written by Tom Hutchinson and published Feb. 14, 2008. Anand owns no shares in any companies mentioned. US Bancorp and Bank of America are Motley Fool Income Investor recommendations. The Fool has a disclosure policy.


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  • Report this Comment On August 25, 2008, at 11:55 AM, SteveTheInvestor wrote:

    Bank stock "strategy" is currently the equivalent of going to Las Vegas in my view. It's quite impossible to decide on a strategy when nobody can even hazard a guess as to how deep the cesspool is.

  • Report this Comment On September 04, 2008, at 1:27 AM, staffier wrote:

    I think a compelling argument can be made -- and Tom Brown agrees -- that July 15th was the bottom. Since then, MBIA and Ambac -- two companies the CAPS "All-Stars" and Motley Fool staff still don't seem to understand, or even care to understand -- have quadrupled. By the time the above mentioned bleating sheep figure out that the world is not coming to an end, they'll have missed most of the bull rally.

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