Is This Bank Cheap According to Graham?

Earlier this year, I spent some time dissecting Benjamin Graham's The Intelligent Investor, the seminal book on value investing. Along the way, I talked about the Graham number as a means of valuation when it comes to stocks. The formula is pretty straightforward: Multiply earnings per share by book value per share, then multiply that by 22.5, and finally take the square root. The result, in dollars, is the Graham number.

However, a quick check can help determine whether or not a company might be worthy of a look using the teachings of Graham. He said that in an ideal situation, the P/E ratio and P/B ratio multiplied together should not exceed 22.5, with a maximum P/E ratio of 15 and P/B of 1.5. With that in mind, I looked at the stocks of the S&P 500 that met the ideal situation mentioned above. Currently, there are 65 companies in the index that meet these criteria. I will be making a CAPScall on these companies after comparing them to competitors and their current value in relation to their Graham numbers. Up next is banking behemoth Citigroup (NYSE: C  ) .

Who are they?
Citigroup is a leading global bank that has approximately 200 million customers with operations in more than 160 countries. It is also famous for its near collapse during the 2008 financial crisis, mostly because of leverage in the neighborhood of 19-to-1. Its problems, as well as other bankruptcies and near-bankruptcies, led to the passage of the Emergency Economic Stabilization Act, leading to nearly $45 billion in bailouts to the bank. While these funds have been repaid , the stock's performance has yet to rebound, with shares down just over 80% over the past four years. 

What's it worth?
When compared side-by-side with the other banks in the top five in total assets, Citigroup trails only Bank of America (NYSE: BAC  ) in potential upside to its Graham number, but the others are still compelling:

Company

EPS (ttm)

Book Value Per Share (mrq)

Graham Number

Recent Price

Upside

Citigroup

$3.45

$62.61

$69.71

$35.14

98.4%

Bank of America

$0.91

$20.16

$20.32

$9.21

120.6%

JPMorgan Chase (NYSE: JPM  )

$4.33

$48.41

$68.68

$41.77

64.4%

Goldman Sachs (NYSE: GS  )

$6.69

$137.00

$143.60

$120.08

19.6%

Wells Fargo (NYSE: WFC  )

$3.02

$26.06

$42.08

$35.23

19.4%

Source: Yahoo! Finance and author's calculations.

A recurring thing among these giant banks is troubles in the courtroom, some extending back as far as the 2008 financial crisis. Bank of America is fighting its way through numerous lawsuits because of its toxic Countrywide mortgages. JPMorgan has had its own problems during the past couple of months, with the revelation of the London Whale and its loss of close to $6 billion.

Wells Fargo is having its own issues in court, with a civil lawsuit filed by the Manhattan U.S. Attorney's office earlier this week joining $6.5 million in fines from the SEC for shenanigans regarding mortgaged-backed securities. Finally, Goldman Sachs has not avoided the attention of the Feds, though the Department of Justice and SEC recently stopped their investigations into the investment banking behemoth.

Accountability time
A stock's valuation, regardless of the method used, is but one thing to look at when evaluating a potential investment. Eventually the lawsuits will stop, and Citigroup should continue to make money. Even though it is not the cheapest here, it still has plenty of room to grow into its Graham number valuation, so I will be giving it a thumbs-up over on my CAPS page in order to track this call and keep myself accountable.

Citigroup is big, but Bank of America is one of the most-talked-about banks out there, and you often cannot mention one without the other. Check out our in-depth company report on Bank of America, which details Bank of America’s prospects, including three reasons to buy and three reasons to sell. Just click here to get access.

Robert Eberhard has no positions in the stocks mentioned above. Follow him on Twitter, or click here to see his holdings and a short bio. The Motley Fool owns shares of Bank of America, Citigroup, JPMorgan Chase, and Wells Fargo and has the following options: short OCT 2012 $33.00 puts on Wells Fargo and short OCT 2012 $36.00 calls on Wells Fargo. Motley Fool newsletter services recommend Goldman Sachs and Wells Fargo.

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