Persistent inflation, rising interest rates, economic slowdown, geopolitical tensions, and fears of recession have created the perfect storm for the banking industry. Higher borrowing costs in recent months have weakened demand for mortgages and car loans, squeezing banks' revenues.
However, leading U.S. banks have defied the odds to turn in stronger-than-expected results. For the quarter to date, the S&P Banks Select Industry Index has returned 4.42%, handily topping the 3.7% gain for the S&P 500 benchmark index for the same period, as of Jan 13, 2023.
Investors looking to expand or gain exposure to the U.S. banking industry may want to look at the following leading financial institutions. With wide moats, capital buffers, some margin of safety and upside potential, these names appear attractive bets during uncertain economic times.
Bank of America (BAC) is one of the largest financial institutions in the U.S., with over US$2.5 trillion in assets. It operates four main segments: consumer banking, wealth and investment management, global banking, and global markets. The firm’s Merrill Lynch and U.S. Trust private banks provide wealth management and brokerage services.
Putting a decade of troubles and billions of dollars worth of legal and regulatory settlements behind it, the firm has emerged as one of the pre-eminent U.S. banking franchises. “Bank of America now has one of the best retail branch networks and overall retail franchises in the United States, is a Tier 1 investment bank, is a top four U.S. credit card issuer, is a top three U.S. acquirer,” says a Morningstar equity report.
Bank of America also owns the Merrill Lynch franchise, which has turned into one of the leading U.S. brokerage and advisor firms, the report adds.
The lender has been investing in its technology platforms and organic growth initiatives across its franchises. “Bank of America is seeing increasing mobile adoption, has access to data on millions of customers, and has one of the largest tech budgets in the industry,” says Morningstar strategist Eric Compton, adding these factors will only matter more as the industry progresses.
The wide-moat bank reported stronger than expected fourth-quarter profit, but management lowered net interest income, or NII, outlook for the year. Bank of America’s NII “sensitivity in 2023 is a key concern,” warns Compton, who recently lowered the stock’s fair value to US$39 from US$40, incorporated slightly lower fees, higher expenses, and a minor recession in 2023.
Leading U.S. bank, Wells Fargo (WFC) boasts around US$1.9 trillion in assets. It primarily operates within the U.S. and has four main business segments: consumer banking, commercial banking, and corporate and investment banking.
The bank is in the middle of a multiyear turnaround as it works its way through legal and regulatory issues and cuts core expenses. “Despite the bank's issues, Wells Fargo remains one of the top deposit gatherers in the U.S., with the third most deposits in the country behind JPMorgan Chase and Bank of America,” says a Morningstar equity report.
Wells Fargo has a large network of branches and ATMs across the country and enjoys a strong reputation for servicing middle-market commercial clients.
“We believe this scale and the bank's existing mix of franchises should provide the right foundation to eventually build out a decently performing bank,” says Compton, who pegs the stock’s fair value at US$58.
Even if the lender falls short of its peers like JPMorgan and Bank of America in achieving returns and efficiency, Compton expects Wells Fargo to remain larger than any other regional bank.
The bank possesses a wide moat, or sustainable competitive advantage, stemming from cost advantages and switching costs. “Wells Fargo is one of the largest U.S.-based banks by assets and has leading share and operations in many of the key areas in which it competes,” assures Compton.
While Wells Fargo reported weaker profit and revenue compared with a year ago, it posted strong net interest income driven by higher interest rates.
JPMorgan Chase (JPM) is a sprawling financial institute in the U.S., holding around US$4 trillion in assets. It comprises four main sections: consumer and community banking, corporate and investment banking, commercial banking, and asset and wealth management. The bank operates in various countries.
“JPMorgan Chase is arguably the most dominant bank in the United States with leading investment bank, commercial bank, credit card, retail bank, and asset and wealth management franchises,” says a Morningstar equity report.
A force to be reckoned with, the bank's combination of scale, diversification, and sound risk management give it a competitive advantage few other firms can match.
“Even the best-managed banks are not immune to the occasional stumble, but JPMorgan has managed to seemingly put all the pieces together in a more cohesive and less error-prone way than peers,” says Compton, who puts the stock’s fair value at US$146.
As the importance of scale and technology continues to increase for the banks, it will be hard for competitors to catch up, he adds.
The company is the largest credit card issuer in the U.S. and is roughly tied as the largest U.S. merchant acquirer. The firm’s investment bank is the leading global generator of fees, and JPMorgan's FICC trading desk remains one of the top global players.
The bank reported a solid fourth-quarter 2022 with both its profit and net interest income beating estimates. “The bank has materially outperformed its peers and the overall market the past several months,” says Compton.
