Banks have been beaten down this year, and for good reason. The yield curve (the difference between the interest rates of short- and long-term bonds) has been tightening, which simply means that a bank's cost of raw material (money) is rising while the prices it can sell its finished goods (loans) are relatively flat. The yield curve has already claimed Fifth Third Bancorp (NASDAQ:FITB), Commerce Bancorp, and a number of others that have revised earnings guidance as victims. And everybody and his mother are up in arms over the potential popping of the real estate bubble and the danger it poses to banks.
Still, well-run banks will weather the storm and come out stronger in the future.
With some banks down 10% or more this year, it's not difficult to find one that yields 4% or more. Behemoths Citibank (NYSE:C), Bank of America (NYSE:BAC), and Wachovia (NYSE:WB) all boast yields hovering around 4% lately. Because they are massive banks, their growth is more daunting and their diverse operations make them more difficult, but not impossible, to analyze.
Regional banks, on the other hand, are smaller but do offer the benefits of size and solid growth opportunities. And because regional banks are less likely -- though not guaranteed to avoid -- to make international loans in undeveloped markets or get into other special situations while chasing growth, they are considered slightly less risky.
One for the ages
BB&T (NYSE:BBT) has been in the banking business for more than 130 years, which is quite a feat. Initially started as a single branch in Wilson, N.C., to support farmers and businessmen who wanted to rebuild after the Civil War, BB&T now has more than 1,400 banking offices in 11 states and Washington, D.C., and boasts more than $100 billion in assets.
Over the past few years, BB&T grew quickly via acquisitions of small banks but put the kibosh on further acquisitions last year, when it began struggling to integrate the new businesses. Despite these acquisition problems, BB&T has kept its return on equity (ROE) and assets (ROA) (measures of bank profitability) respectable for the past couple of years. Over the past 12 months, BB&T has turned in an ROE of 15% and ROA of 1.6%, both of which signify solid performance for a bank. Nevertheless, BB&T trades at a reasonable valuation and yields 4%.
BB&T's future growth plans include the expansion of its existing business into its core Southern and Mid-Atlantic markets organically and through acquisitions now that the company has integrated its previous purchases. The company's strategy is to focus on smaller banks at reasonable prices. Increasing interest rates mean that BB&T is likely to feel a pinch in the short term, but its long-term strategy is pretty sound. In addition, its excellent credit ratings keep its cost of borrowing low.
Heading south
Though it sits about 12% off its highs, Motley Fool Income Investor selection AmSouth Bancorp (NYSE:ASO) has beaten the market for subscribers over the past two years, with returns of 27.7% to the S&P 500's return of 22.5%. Today, the value proposition remains sound, and the company still offers a 4.1% dividend yield.
When it was originally recommended, AmSouth sported an ROE of 20% and an ROA of 1.5%. Today, it is just as healthy, with an ROE of 20% and ROA of 1.3%. The outlook for the company is solid as well, though some near-term hiccups from Hurricane Katrina are possible, which is partly why its shares have fallen back a bit. While AmSouth may take a hit from Katrina in the short term, it should also benefit from the rebuilding process. I don't believe that destruction necessarily creates net economic benefits, but AmSouth is well-positioned to recover. In the long run, AmSouth should continue to benefit from the favorable demographic trends it has enjoyed in the South for quite some time.
Foolish final thoughts
Banks may be challenging for folks who aren't accustomed to the different line items on their income statements and balance sheets, but, rest assured, these can be mastered. And although some investors may consider banks somewhat boring, it would behoove you not to ignore them. It's well worth your time and effort to study banks and the diversification they provide alongside such solid consumer dividend payers as Kimberly-Clark (NYSE:KMB) and the W.M. Wrigley Company (NYSE:WWY).
Curious about more well-positioned banks that pay solid dividends? Take a free 30-day trial to Motley Fool Income Investor. Lead analyst Mathew Emmert has recommended four other banks over the past two years along with a number of REITs, consumer staples, and diversified manufacturers that have beat the market by an average of 4.2%. If you're not satisfied, we'll give you your money back. No questions asked.
Nathan Parmelee is amazed that Ricky Martin is back with another album. He has no financial stake in the companies mentioned. The Motley Fool has an ironclad disclosure policy.
