Don't let it get away!
Keep track of the stocks that matter to you.
Help yourself with the Fool's FREE and easy new watchlist service today.
My grandfather used to say, though never to me directly, that "banking is like sex. When it's good, it's great. And when it's bad, it's still pretty good."
While the financial crisis may have led the average investor to question this -- 454 banks have been seized by regulators since the beginning of 2008 -- the industry is back on its feet and growing again -- albeit at a less frenetic pace than before. In its most recent quarterly banking profile, for instance, the FDIC noted that the industry's first-quarter aggregate net income of $35.3 billion is the highest it's been since the second quarter of 2007.
Yet many banks are still trading for fractions of book value. While the average savings and loan institution is selling for an 11% discount, megamoney center banks like Bank of America and Citigroup are trading for less than half of their book value. In this environment, it's become exceedingly important for investors in financial stocks to be able to separate the winners from the losers. And to do this appropriately, one must look under the proverbial hood.
In this series, I examine six of the most important metrics to assess the quality of a bank's operations. The current bank under the microscope is New York Community Bancorp (NYSE: NYB ) , the New York-based lending giant with total assets of nearly $44 billion.
New York Community Bancorp
|Tier 1 capital ratio||13.65%||approx. 8%|
|Net interest margin||3.30%||>= 3.5%|
|Provision for loan losses (as a % of net interest income)||11.28%||<= 5%|
|Net noninterest expense (as a % of net interest income)||19.29%||<= 33%|
|Allowance for loan loss/non-performing loans||32.5%||>= 100%|
|Return on equity (TTM)||8.72%||>= 15%|
|Price-to-book ratio||1.04||approx. 1.0|
Sources: New York Community Bancorp's Q2 2012 10-Q and Yahoo! Finance. TTM = trailing 12 months.
There's a lot to love about NYB from the typical investor's perspective. It pays a 7.7% dividend yield, is highly capitalized with a tier 1 risk-based capital ratio of 13.65%, and is led by long-tenured executives with skin in the game. With respect to the latter, for instance, its president and chief executive officer, Joseph Ficalora, has worked his way up NYB's ranks since 1965 and holds shares in the company worth over $70 million.
Yet at the same time, investors shouldn't be blind to its shortcomings. In the first case, its cost of funds is unconscionably high. One of the characteristics that distinguishes banks from other leveraged funds is that banks have access to federally insured, and thus less expense, funding sources -- namely, deposits. In the first quarter of this year, the average cost of funds for banks irrespective of size was 0.59%. And for banks like NYB with more than $10 billion in assets it was just 0.53%. Yet NYB pays an outlandish 1.9%, over three times the average. Indeed, even if it only paid the average amount, it could double its return on equity and dividend payout and still have capital left over to grow.
Speaking of dividends, one of the most frequently voiced concerns about NYB is that its quarterly dividend payout is too high. This concern is based on an analysis of the payout ratio -- the amount a company pays in dividends relative to its earnings -- and isn't without merit. Over the last five years, NYB has paid a total of $5 per share in dividends while earning only $4.59 per share, equating to a cumulative payout ratio of 109%. This is largely a consequence of 2008, when the bank maintained its dividend in the face of massively reduced earnings. Consequently, if you take only the last three years into consideration, the ratio improves to 86% -- still high, but certainly sustainable.
Finally, as an alternative to growing organically by retaining earnings, NYB has adopted a strategy of growth through acquisition. In its 2008 10-K the company proclaimed, "Reflecting our growth through a series of eight business combinations between 2000 and 2007, we currently have 215 banking offices serving customers in all five boroughs of New York City, Long Island, and Westchester County in New York, and Essex, Hudson, Mercer, Middlesex, Monmouth, Ocean, and Union counties in New Jersey." One year later, NYB moved into the Florida, Ohio, and Arizona markets through the FDIC-assisted acquisition of AmTrust Bank. And a year after that, in another FDIC-assisted transaction, it acquired Phoenix-based Desert Hills Bank. At present, in turn, it operates under nine different banners in five different states.
Although this is typically a horrible growth strategy -- it's largely the reason Bank of America and Citigroup are in the situation they're in -- it can't be denied that doing so over the last few years through FDIC-sponsored acquisitions may very well end up being an enormous coup for the acquiring institutions. We'll just have to wait and see.
So, is New York Community Bancorp a buy?
This is tough. On one hand, its dividend yield, long-tenured management, and potentially opportunistic acquisitions make a strong case in favor of adding this stock to any portfolio. Yet on the other, these same qualities could be interpreted as alarming weaknesses.
It's this equally balanced paradox that goes a long way toward explaining why NYB currently trades for book value, as there are legitimate bulls and bears on either side -- though it should be noted that NYB's shares sell for nearly twice its tangible book value. Thus, although it may seem like I'm dodging my own question, probably the best that can be said is that buying NYB isn't an unreasonable risk and passing it up probably isn't a huge mistake either.
To learn the identity of the only big bank that's built to last, click here to download our newest free report instantly.