Didn't Get the Brexit Discount? There's Still Time to Buy These 3 Banks

By Markets Fool.com


Image source: Getty Images.

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Following a solid two-day rebound from their Brexit losses, U.S. stocks are notching up incremental gains on Thursday afternoon, with the benchmarkS&P 500and theDow Jones Industrial Average (DJINDICES: $INDU)up 0.95% and 0.98%, respectively, at 12:50 p.m. EDT. Shares of Bank of America Corp, Citigroup Inc, and JPMorgan Chase & Co.are underperforming, despite yesterday's post-close announcements of updated capital return programs approved by the Federal Reserve.

The new capital return plans bring shareholders one step closer to the normal modus operandi for owning bank shares ("normal" as in "between two crises"): putting out your hand to receive the bulk of profits in dividends and share repurchases. It appears investors had anticipated positive news ahead of the release of the full results of this year's round of "stress tests," and with the numbers in, it's safe to say they weren't disappointed:

Dividend Increase /
Indicated Yield

New Share Buyback Program

Bank of America

+50%

2.27%

$5 billion

Citigroup

+220%

1.52%

$8.6 billion

JPMorgan Chase

Unchanged

3.14%%

$10.6 billion

Data source: Company press releases.

For B of A, this is the first time since the fourth quarter of 2009 its dividend yield will break 2.00%, with Citi finally rising from an ignominious level to comfortably hurdle the 1% barrier. JPMorgan did not institute a dividend increase, but it's already fulfilling its responsibility to provide an above-market yield (not to mention a fat new share repurchase program). For reference, the current dividend yield on the S&P 500 index is 2.21%.

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After last Friday's market close, I suggestedthe stock market was overreacting with the haircuts it had inflicted on the shares of top U.S. banks in the wake of the Brexit referendum's surprise result. While those stocks suffered further losses on Monday, they've rebounded sharply since then; from their intraday lows at the start of the week, shares of B of A and Citi are up almost 10%, respectively. Nevertheless, the three banks remain below their levels just prior to the detonation of the Brexit bomb, by 4% to 6%.

The mirage of normalization

Perhaps that's a reasonable discount, after all. While I think the risk of Brexit causing a major financial crisis looks increasingly remote, it will almost certainly have pushed back the calendar for further rate increases by the Federal Reserve. Like a mirage, just as the perspective of a normalization of interest rates -- and, simultaneously, bank profitability levels -- is within reach, it appears to move farther away.

In an excellent blog post that attempts to draws some broader lessons for investors from the Brexit fiasco, New York University finance professor Aswath Damodaran warns of "an extended period of political and economic confusion that will affect global growth, and some banks, primarily in the UK and the US, will find their capital stretched by the crisis and their stock prices will react accordingly."

I'm surprised he should mention U.S. banks before their European counterparts, which are less well capitalized in aggregate. According to the results of the stress tests, even under the severely adverse scenario, B of A, Citi, and JPMorgan would maintain a common equity tier near or above 7%. The severely adverse scenario includes a 50% drop in stock prices and a 25% drop in home prices, with unemployment rising to 10%.

I think these three banks' shares remain attractive, Brexit or no Brexit, even after their rebound. By "attractive," I don't mean "outrageously cheap," but from current levels, I expect them to produce a long-term return roughly in line with the historical average return on U.S. stocks -- I can't say the same thing of the stock market itself.

Tweet of the day

At least one thing that people who say "I know" about everything don't know: how hard it is to know something about anything.

-- Jason Zweig (@jasonzweigwsj) June 30, 2016

The article Didn't Get the Brexit Discount? There's Still Time to Buy These 3 Banks originally appeared on Fool.com.

Alex Dumortier, CFA, has no position in any stocks mentioned. The Motley Fool recommends Bank of America. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.