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When it comes to bank stocks, you generally get what you pay for. That's why shrewd investors continue to buy shares in banks that are trading for substantial premiums to their tangible book values, including The Bank of New York Mellon , U.S. Bancorp , State Street , and Wells Fargo .
There's no hard and fast rule that dictates when a bank's shares are cheap or expensive, but the most popular benchmark revolves around whether or not it's trading for more than its tangible book value per share. The greater the premium, the dearer the price.
As you can see in the table below, all four of these banks meet this criterion:
Data source: YCharts.com.
The Bank of New York Mellon trades at the highest valuation in the industry, with its shares changing hands at 3 times tangible book value -- I explainherewhy The Bank of New York Mellon is the "most interesting bank in America." U.S. Bancorp is next at 2.7 times tangible book. And State Street and Wells Fargo round out the four most expensive big bank stocks right now, at 2.3 and 1.9 times tangible book value, respectively.
Although it may seem counterintuitive to prefer expensive bank stocks over their more reasonably priced peers, there are reasons to think that they are indeed the most prudent way to invest in the sector.
First, all four of these banks are among the safest in the industry. As custodial banks, Bank of New York Mellon and State Street generate most of their revenue from fee-based activities as opposed to from making loans. This reduces their credit risk. Wells Fargo and U.S. Bancorp, meanwhile, have strong cultures of especially prudent risk management.
This prudence filters through to these banks' profitability. Over the last 12 months, U.S. Bancorp and Wells Fargo have generated the highest returns on equity among the nation's biggest banks -- at 14.8% and 13.6%, respectively, according to data from YCharts.com. State Street isn't far behind, with a return on equity of 10.3%. And even though The Bank of New York Mellon doesn't rank quite as high, its 8.9% return on equity by no means underperforms the industry.
The net result is that all four of these stocks have generated positive shareholder value over the past decade -- which was no easy feat given the severity of the financial crisis. Wells Fargo is the best-performing bank stock over the period, with a total return including dividends of 101%. U.S. Bancorp's 81% total return ranks it third. The Bank of New York Mellon comes in sixth with a total return of 26%. And State Street rounds out the bunch in ninth place with a total return of 7%, which is nearly three times the average total return of the 17 biggest banks in America.
In sum, while you might not immediately think that buying the most expensive big bank stocks right now is a prudent investment strategy, there's every reason to believe that it may in fact be just that.
The article The 4 Most Expensive Big Bank Stocks Right Now -- and Why They Are Still Worth Buying originally appeared on Fool.com.
John Maxfield owns shares of US Bancorp and Wells Fargo. The Motley Fool owns shares of and recommends Wells Fargo. The Motley Fool has the following options: short May 2016 $52 puts on Wells Fargo. 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.
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