The troubles in the eurozone have made many investors afraid of investing in European banks. But while the economies of peripheral nations are still casting a shadow over Greek and Irish banks, those in Germany are able to escape some of the mess by residing in a more financially stable country. In particular, Germany's two largest banks -- Deutsche Bank AG (NYSE:DB) and Commerzbank AG (NASDAQOTH:CRZBY) -- present some intriguing opportunities.
Where we've been
With economic malaise in Europe and share dilution from capital infusions, shares of both banks are trading well off their pre-recession highs. Before the recession, Deutsche Bank traded north of $120 per share and currently sits at around $47. Shares of Commerzbank have done even worse. From a split-adjusted high of over $500 in 2007, Commerzbank now trades near $17.
Just how big are they?
To truly value these companies, we need to take market capitalization into consideration. In efforts to raise capital, both banks issued massive numbers of new shares, causing significant share dilution. Deutsche Bank's share count more than doubled from 498.7 million at the end of 2006 to 1.0 billion today.
At Commerzbank, the split-adjusted number of shares outstanding at the end of 2006 was 65.7 million. Today, that number stands at over 1.1 billion. In fact, there's been so much share dilution at Commerzbank that even without adjusting for the 1-for-10 reverse split, Commerzbank still has more shares outstanding today than it did at the end of 2006.
Using these numbers, Deutsche Bank's market cap at the end of 2006 stood around $62 billion and Commerzbank's came in around $26 billion. Today, Deutsche Bank has a market cap of $48.1 billion, and Commerzbank is valued at $19.3 billion.
Based on those valuation comparisons -- with Deutsche Bank and Commerzbank at 22% and 26% below their end of 2006 market caps, respectively -- it does appear there is room for recovery, but not to the same extent as the share price chart may indicate.
Because of the uncertain outlook and the risks that I will discuss soon, both German banks trade at low valuations. Deutsche Bank trades at 0.8 times tangible book value and 0.6 times book value, while Commerzbank trades at 0.6 times tangible book value and 0.55 times book value.
Compared with Bank of America, one of the biggest banks on the other side of the Atlantic, both German banks trade relatively cheaply. B of A remains one of the last major U.S. banks to trade below book value. However, a recovery in confidence has shown its ability to work at B of A as shares have rebounded from the mid-single digits at their bottom to over $16 today. If confidence in the financial system continues to build, B of A shares could move closer to book value (carrying double digit upside) and German banks could at least move above tangible book value.
Sounds great, but ...
Just because Deutsche Bank and Commerzbank are not based in a peripheral nation does not mean they are shielded from their threats. Both banks are exposed to these peripheral economies through the ownership of sovereign debt and other investment activities.
Additionally, Commerzbank developed a large shipping loan portfolio prior to the recession and, with the shipping industry suffering financial difficulties, this lending has been a sore spot for the bank.
Stress tests are a major topic today among European banks, as a significant failure could mean more share dilution through forced share sales to raise capital. However, German banks appear to be in better shape than many of their European counterparts. Current expectations from analysts call for German banks to meet requirements through internal restructurings, the sale of risky assets, and possible dividend cuts -- all of which are more favorable than share issuance.
German banks trade at a significantly lower valuation than U.S. banks due to their exposure to the eurozone economy. Commerzbank is the more speculative pick, with a lower valuation, no dividend, and a cloud of uncertainty over its shipping loan portfolio. Value investors looking for a dividend would be more interested in Deutsche Bank as it currently yields just over 2%. However, if the bank has a tough time meeting requirements, it may reduce this payout.
With Deutsche Bank and Commerzbank still trading well below tangible book value and below historical high market cap levels, these stocks look worth examining further for value investors comfortable with some risk.
Alexander MacLennan owns shares of Commerzbank AG, and is long January 2015 $20 calls on Bank of America and Bank of America Class B warrants. This article is not an endorsement to buy or sell any security and does not constitute professional investment advice. Always do your own due diligence before buying or selling any security.
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