U.S. stocks are lower in early afternoon trading on Wednesday, with the Dow Jones Industrial Average ( ^DJI ) and the S&P 500 ( ^GSPC 1.54% ) down 2.24% and 1.83%, respectively, at 12:30 p.m. ET. The American depositary receipts of Swiss banks UBS AG and Credit Suisse Group AG are underperforming, down 3.24% and 7.05%, respectively, as the sell-off in bank stocks continues.
Earlier this week, this article highlighted the banking sector's recent underperformance and two of the opportunities this has created for patient capital in Bank of America Corp and JPMorgan Chase & Co. However, their European counterparts may offer even greater opportunity.
Not only have the major European banks been buffeted by macro concerns (China slowdown, deflation and a global recession, etc.), but several of these names have recently undergone a change in leadership (Credit Suisse Group AG, Deutsche Bank AG, and Barclays plc) on the back of concerns about performance and strategic direction.
Finally, for the universal banks, which combine commercial and investment banking, there are lingering questions regarding the appropriate mix of investment banking activities, some of which are no longer as profitable under the weight of increased regulation and capital requirements.
This Fool likes the Swiss banking duopoly of Credit Suisse and UBS, in particular, for a number of reasons.
First, given the role of leverage in a bank's business model, safety is priority No. 1 for investors. What some investors may not appreciate is that Switzerland has enacted one of the toughest regulatory regimes for banks.
The global financial crisis forced the Swiss government to recapitalize UBS with a CHF6 billion investment. This was a brutal wake-up call, given that UBS and Credit Suisse's combined assets at the end of 2007 were nearly 5 times the country's gross domestic product, and the country's regulatory authorities reacted in kind.
Ready, CET, go!
For example, at the end of December, UBS had a Tier 1 common equity (CET 1) capital ratio of 14.5%, well ahead of the 10% minimum required by the end of 2019 under the Basel 3 capital adequacy framework that was devised in the wake of the financial crisis. Credit Suisse Group's CET1 ratio was 11.3%.
(The CET1 ratio is the proportion of Tier 1 common equity to the bank's total risk-weighted assets. Tier 1 common equity is the highest-quality form of equity capital.)
By comparison, JPMorgan Chase, which is the best-run universal bank in the U.S. (and, arguably, the world), had a CET 1 ratio of 11.6% at the end of 2015.
The second protection investors can look for is the price they pay to own the shares -- that is, the key here is to obtain what legendary investor Ben Graham termed a "margin of safety." At a price-to-forward-earnings multiple of 8.7 times and 6.7 times, respectively, UBS' and Credit Suisse's shares exhibit that margin of safety today.
As with JPMorgan and Bank of America, there is a trade-off between quality and price for UBS and Credit Suisse; however, both appear to offer good value for investors who can afford to take a three- to five-year time horizon.