A Perfect Industry to Avoid

There are many types of socially responsible investing strategies, but one involves avoidance of all stocks in specific industries. Traditionally, these have been weapons, tobacco, alcohol, and pornography manufacturers. Today, though, the financial industry continues to be a good candidate for the AVOID list.

Mass destruction
Immediately after the financial crisis, it was clear that financiers had recklessly gambled with America's economic health. Given the fact that banking touches just about all of us in some way, the negative ramifications of bankers' risky behavior certainly gave a legitimate argument as to how banking shenanigans could pretty much outdo bazookas in the casualty department.

Our leaders claimed that, without a publicly-funded bailout, the world economy could grind to a halt -- in other words, it was the financial equivalent of a nuclear bomb.

Berkshire Hathaway's (NYSE: BRK-A  ) Warren Buffett dubbed the derivatives that bankers had abused as "financial weapons of mass destruction" that could bust the entire economy in one of his letters to shareholders years before the financial crisis hit . (Ironically, Berkshire Hathaway has booked some paper losses on its own derivatives bets in recent quarters .)

Socially responsible fund Appleseed Fund was the first to make the case for avoiding too-big-to-fail banks due to their antisocial behavior. Over the years, I've continued to believe that individual investors -- particularly socially responsible ones -- should avoid banks. Ruthless recklessness, lack of humility, lack of transparency, and signs that few, if any, lessons were learned from the financial crisis, have completely soured me to the idea of investing in such stocks.

Meanwhile, here's another reason not to invest: It's an industry that's abused and angered its own customers so much that it's ripe for disruption, and there are signs it's already happening.

2012: Another irresponsible year in banking
Maybe this sounds like a fringe opinion to some investors, but the case is building for avoiding financial stocks regardless of whether one is a proponent of socially responsible investing or not.

JPMorganChase's (NYSE: JPM  ) "London Whale" trading loss controversy gave the distinct (and distinctly uncomfortable) impression that, even though CEO Jamie Dimon has often been lauded as the best leader in the sector, even he didn't have a proper grasp on what was going on at his own company. His once stellar reputation has taken a real tarnishing from the "London Whale" incident. 

Come to think of it, 2012 was riddled with financial company controversies. For example, the Libor scandal reared its ugly head last year. UBS (NYSE: UBS  ) agreed to pay $1.9 billion to the U.S., the United Kingdom, and Switzerland in late December , opening up the possibilities other banks will be implicated as regulators investigate for collusion.

And let's not forget HSBC's (NYSE: HSBC  ) $1.9 billion settlement to the U.S., which was related to accusations that it had conducted money laundering for Mexican drug dealers, as well as doing business with suspicious customers in Cuba and Saudi Arabia .

Just recently, Frank Partnoy and Jesse Eisinger provided an in-depth analysis in The Atlantic that's a must-read for financial stocks' would-be investors. "Banks today are bigger and more opaque than ever, and they continue to behave in many of the same ways they did before the crash," the authors wrote .

Their research focused on Wells Fargo's (NYSE: WFC  ) financial statements, which led them to the conclusion that, when this supposedly conservatively-managed bank is held up to scrutiny, it's actually terribly difficult to understand. The company's financials are full of meaningless or cryptic jargon and significant footnotes that nobody seemed to catch more than 100 pages into its annual report, for example.

The upshot of the article is actually one that individual investors should take very seriously, because it has to do with supposedly highly-sophisticated investors: "More and more, people in the know don't trust big banks either ."

Boot the bank stocks
Perhaps many investors have become lulled into a false sense of security in the years after the financial crisis, even though there's still plenty that's not even fixed since that time. Maybe it's been just enough time for a lot of people to forget.

Socially responsible investors -- and really, investors of all persuasions -- would do well to simply avoid investing in stocks in this shady, difficult to understand, and potentially highly destructive industry. Not only have the industry's actions often been reprehensible, the risk never really went away.

Check back at Fool.com for more of Alyce Lomax's columns on environmental, social, and governance issues.


Read/Post Comments (16) | Recommend This Article (14)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On January 04, 2013, at 5:53 PM, ronbeasley wrote:

    It is hard to know what Alyce Lomax personal issues are, but telling boldface lies is no way to resolve them. Warren Buffett is well known as a highly ethical investor, and Wells Fargo has been his favorite investment for the past few years. It still is. I have followed Wells for years, and I find its financials to be complete and detailed. Yes, I read all of the detail, and there are is a lot of sound, useful information in there. Jamie Dimon at JP Morgan Chase takes on more risk, but is extremely competent and one of the best risk managers in the world. Chase and Wells are two that rescued the industry, and they did not need a bailout.This article is completely irresponsible, and I am amazed that even a low-end publication like the Motley Fool would stoop so low as to publish it.

  • Report this Comment On January 04, 2013, at 9:00 PM, SuntanIronMan wrote:

    Probably good that you (or somebody else) changed the Fool Premium Research Report advertising bit at the end to something else. But I did love how your article was so negative on Wells Fargo, but the initial ad immediately after talked very positively about Wells. Hilarious, lol.

  • Report this Comment On January 04, 2013, at 9:25 PM, TMFLomax wrote:

    Hey everyone,

    As anybody who's been knocking around the Fool knows, many of us have very different opinions of stocks. Many of my colleagues have no problem with investing in or recommending bank stocks. I do have a problem with the concept and have for a long while, and I outlined reasons why.

    I would simply hope readers will thoughtfully read this article (and the one in The Atlantic, which as I said is very good) and simply think about it. If they then would like to access a report with more information on WFC, by all means, please do. I won't be angry, I promise. ;) I'm accustomed to people disagreeing with my opinions and I have great respect for my colleagues as well. All of us have our choices and our comfort levels.

    As for Warren Buffett, I also have a ton of respect for him; he is a great investor, and a very wise man, particularly on investor psychology and philosophy. However, as I would say of him or any other human being, he's not perfect as none of us are. One of my personal opinions is that, like I said, financial stocks are too complicated and opaque, and I don't really care WHO is invested in them, even Mr. Buffett; they're not for me.

    Have a great weekend, folks!

    Alyce

  • Report this Comment On January 05, 2013, at 9:28 AM, LouisFBrooks wrote:

    If you have not yet, look at BOFI.

    Thanks,

    --louis

  • Report this Comment On January 05, 2013, at 10:18 AM, ronbeasley wrote:

    Try to understand that your inability to grasp something does not make it opaque. In my experience, Wells personnel are happy to guide you through the disclosures if they are unclear to you.

    As to your opinions, there is informed opinion, and there is opinion stemming from lack on understanding, with a sizable gap between the two. Nuclear physics is something I don't understand. I do not consider it opaque, and I do not express opinions on it.

  • Report this Comment On January 05, 2013, at 5:06 PM, skypilot2005 wrote:

    On January 04, 2013, at 5:53 PM, ronbeasley wrote:

    "Warren Buffett is well known as a highly ethical investor, and Wells Fargo has been his favorite investment for the past few years. It still is."

    Agreed.

    But, Mr. Buffet has been completely wrong about the relationship between Europe, Obamas’ economic policies and the value of precious metals over the last four years. A big “miss” he and Munger refuse to acknowledge.

    Look up the term “opportunity cost” and you may not feel so “smug”.

    Fool On

    Sky

  • Report this Comment On January 06, 2013, at 6:17 AM, MAACPRIME wrote:

    Following this advice would mean you would have lost out from BAC's recent spectacular gains or from Lloyds in the UK. This is another example of someone criticising an unpopular industry with few supporters. Well, that's where the profits for stock investors are.

    Saying financial industry accounts are opaque and difficult to understand is a cop-out. The accounts for all large enterprises are complicated and that's even from the perspective of me, someone who's had professional training in financial reporting.

  • Report this Comment On January 06, 2013, at 2:55 PM, CROIC wrote:

    Most financials (small banks and insurance companies) don't own any derivatives, or at most small swaps positions.

    Small financials are actually quite easy to understand - they're worth tangible book value, plus or minus a premium for their ability to earn long term ROE.

  • Report this Comment On January 06, 2013, at 2:57 PM, CROIC wrote:

    It's your own loss if you don't want to put forth the effort to understand them.

  • Report this Comment On January 06, 2013, at 3:42 PM, Marmadukemark wrote:

    I say let's not be too harsh. They are the Motley Fools after all.

    Lomax's opinion piece is just that. It's one Fool's take on the financial sector, and we're given the opportunity to counterpoint.

    If this article were in print media you could submit a counterpoint (or criticism), or write a letter to the editor I suppose, and hope for the slim change it might see the light of day.

    In broadcast you are completely SOL.

    Even on the internets a lot of advice-oriented sites don't offer space for comments. (Though, now that I think about it, I can not prove it.)

    Didn't somebody once say something like "even though I disagree with what you say I will fight to the death for your right to say it."

    That's America and this is Motley Fool. Keep on Foolin'!

  • Report this Comment On January 07, 2013, at 9:26 AM, TMFLomax wrote:

    Thanks Marmadukemark -- spot on. This is my take on the sector, and I just hope people will read it, weigh it and think about it. If they disagree, they are free to do so, describe why, and invest according to their own opinions -- and we will all see what happens in the future with these investments and investing styles. Fool on!

    Best,

    Alyce

  • Report this Comment On January 08, 2013, at 10:37 AM, miteycasey wrote:

    Remember Buffett passed on Microsoft in the early 90's because he couldn't understand it.

    There is nothing wrong with not investing in something for personal reasons, even if there is money to be made there.

    I personally refuse to buy or invest in Croc shoes. Does that make be a bad person or bad investor?

  • Report this Comment On January 08, 2013, at 2:46 PM, TMFLomax wrote:

    Thanks for that thought miteycasey -- it's a great parallel to point out regarding Mr. Buffett, and the types of personal reasons one might choose to invest/not invest in certain companies and industries. Thanks for adding to the discussion!

    Best,

    Alyce

  • Report this Comment On January 09, 2013, at 1:04 PM, Darwood11 wrote:

    Good article.

    I agree, some of these banks are difficult to understand. And I agree with the investing sentiment that if you cannot understand what a company is doing or how it generates it profits, then it might be best to invest elsewhere.

    On another level, if I as an investor decide that how a company generates it's profits is unpalatable to me, then I should, to be in integrity, invest elsewhere.

    Investing is not a popularity contest. We can invest in popular companies, but those may also be defined as "fads."

    There are tens of thousand of companies out there, and investing is a choice. I am free to choose the companies I support and as a small investor with very limited resources, i have decided that I must use my resources with prudence. I also am of the opinion that what I do as an investor does make a difference.

    Yes, I am but one person. I cannot be held responsible for what others do. I am willing to be held accountable for what I do on the planet.

    For a variety of reasons, I am not invested in any of the companies mentioned in the article. Yes, I do own mutual funds and of course, anyone who purchased index funds is invested in these companies. I won't lose any sleep because of my investments and I think they are appropriate.

  • Report this Comment On January 09, 2013, at 1:30 PM, hbofbyu wrote:

    Did I just read someone comparing banking to nuclear physics? So that's why the MIT grads are going to wall street instead of silicon valley.

    I don't have a lot of respect for bankers and politicians (besides being notorious for corruption and greed, they really do not produce anything).

    The service they provide is necessary to all the economy but cannot BE the economy. In the 1980s financial services were about 3% of GDP. Now they are about 6%.

    Think of GM as an example. Once a great company that made a ton of money producing cars. Then they became a bank that happens to offers cars as part of their service. GM lost money selling cars, but made a profit from their GMAC banking business. The US is becoming a macrocosm of this example - once a great nation that produced things, now a huge financial system trying to create wealth from bubbles.

    When confronted with a dark room filled with money, all but the best of us will grab as much as we can. As Alyce rightly points out, the big banks are the dark room.

  • Report this Comment On January 09, 2013, at 1:59 PM, Darwood11 wrote:

    @hbofbyu

    I agree, banking is not nuclear physics. There are laws which dictate the physical universe. We can discuss philosophy and metaphysics, but at present, there are some mathematically defined boundaries.

    Banking exists in an entirely different domain. A domain in which politicians make rules and can change them at any time, and do. They did so in 2008.

    For the rest of us, there are entirely different set of rules in that same domain. That's why my business is, under current government and FED guidance "to small to succeed." If I make a mistake, a critical mistake, then my business will fail. There will be no safety net, no taxpayer financed bail out. No politicians promoting the wonder of my business, or it's intrinsic worth. Or saying "It is in the best interest of the country to screw the taxpayer and bail this company out." Or words to that effect.

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