Bank Stocks – Learning From The Past

With many dividend growth investors heavily weighted in financials, I thought it would be prudent to take a look at the downside risk of the Canadian bank stocks that I own.

With Canadian bank shares down 24% from their 52 week highs I wondered if these are these levels where the stocks should be bought?

Most analysts in Canada are not suggesting to add to positions in financial stocks right now which leads me to believe that they expect even lower valuations in the future.

Here are some of the reasons that we might see bank stocks heading lower.

  1. Net interest income for banks is likely to remain lower over the next quarter…at least.
  2. Capital earnings are likely to be lower than in past years.
  3. We may see even further write-downs.
  4. Higher loan losses are expected with those stockshaving exposure to the United States credit market.

For banks stocks in general, there is a theory that investors default to the price to book ratio in times where credit losses rise rapidly and capital market earnings become difficult to predict.

According to analysts, the Canadian banks traded at an average 1.65x book in the fall of 2002, which coincided with rapidly rising loan losses and difficult equity markets. Do those conditions sound familiar?

A decline from current earnings multiples to 1.65x book would suggest 20-25% of downside risk…Yikes!

If these valuation levels are reached, it will most certainly mean exceptional dividend yields for investors.  Not only that, the upside potential for capital gain will be significantly higher for the long term.

Do you think that bank stocks will decrease another 20-25%?

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