U.S. Financials Look Inexpensive Now

Bank stocks have soared since the election of President Trump. Compared to the overall market banks are up by double digit percentages.For example, the Financial Select Sector SPDR® Fund ETF (XLF) is up by over 46% at the end of February with most of that return accumulated since the election. Compared to the S&P 500’s 5.63% year-to-date (YTD) return the fund is up 5.55% YTD. The reasons for the explosion of this sector are many including looser regulations, higher interest rates, etc.

So many investors may be wondering of financials have came off too far too fast and more importantly if they are cheap. According to two recent article they seem to be inexpensive now despite the tremendous run in the past few months.

From a Fidelity article:

How has the market reacted?

The market has realized that banks stand to benefit from many of the new administration’s prospective changes. But there’s still a lot of uncertainty. The real debate now is about how quickly and to what extent policy changes play out, and the extent to which policies other than those related to taxes and regulations, such as trade policy and foreign policy, affect the growth outlook and, in turn, the financials sector.

The stocks that have done best have been bank stocks, particularly those of U.S.-centric regional banks, highly regulated non-banks, and trading-oriented investment banks. This makes sense because return on equity—which is a key driver of valuation and stock performance—is poised to improve from depressed levels if these factors unfold favorably.

There are risks, of course. Foreign policy and global macroeconomic shocks associated with big policy changes may diminish investors’ appetite for risk, hurting stock prices. For example, if risk premiums rise because investors become anxious about changes in foreign policy, that could depress asset prices. Financial stocks would be very sensitive to these changes given the levered nature of their business models.

These stocks have also moved a lot, so there is a risk of buying when prices are high. It will depend on how much the expectations translate into improved earnings.

Source: What deregulation may mean for bank stocks, Fidelity

Here is another take on the sector from Russ Koesterich at Blackrock:

While some of the gains have come down to improvements in fundamentals, as with the broader market, much of the gains have been driven by more expensive valuations. The price-to-book ratio (P/B) on the sector is up over 40% from last summer’s lows. That said, valuations are still about 25% below the average since the early 1990s, although the P/B is now creeping back towards the post-crisis high.

Valuations look less pricey relative to the broader market, which may say more about extended U.S. stocks than cheap banks. Large cap banks are trading at a 60% discount to the broader market. This looks very reasonable against a 25-year horizon, during which the average discount was only around 40% (see the accompanying chart). However, as with absolute valuations, relative value is less enticing when compared to the post-crisis norm. Relative valuation for large U.S. banks is now back to the highest level since early 2014.


He also notes that while bank stocks look cheap, from a Return on Assets (ROA) perspective they are still lower than before the financial crisis of 2008-09. The ROA was for large banks was 1.20% in 2006. Since 2011 it was at around 0.95% and has been even lower recently. So the ROA has not improved and returned to pre-crisis levels and the jump in bank stocks is mainly due to expectations for better times ahead.

Source: Are U.S. banks still cheap?, Blackrock Blog


  • SPDR Financial Select Sector ETF (XLF)

Disclosure: No Positions


Breakdown of Apple iPhone 7 Retail Price

Global trade is important in the modern era. With globalization, goods are moved across borders benefiting many countries during the process.

The breakdown of a popular product such as iPhone 7 shows the benefits of global trade. The phone sells for $658 in the U.S. Of this, about 40% or 257$ goes to Apple(AAPL) and other U.S. companies make $70 ( or 11%) out of it. So in total, about half of the cost of the iPhone goes to US firms.

Component makers Korea, Taiwan and Japan take 6%, 9% and 7% respectively. China, the assembler and shipper of the product gets only 2% of the retail price.

So in summary, just 2% of an iPhone’s price goes to China. Though China is blamed for the destruction of US manufacturing jobs and profiting from it, at least in the case of Apple’s iPhone the biggest gainer is US and not China.

The following chart shows the breakdown of iPhone 7 price:

Click to enlarge

Source: The Real Trade Warby Yu-Ming Wang, Global Head of Investment and Chief Investment Officer, Nikko Asset Management

Also see: Breakdown of an Apple iPhone 5 Component Costs, TFS

Disclosure: No Positions

International Investing: Why Diversify Across Borders?

One of the topics that I have covered many times on this blog is the benefits of international diversification. No country or region is the top performing consistently year after year. So while the U.S. market has done well in recent years, over time other markets have been top perfomers in one year than the U.S.

A popular tool that clearly shows the advantages of diversification is The Callan Periodic Table of Investment Returns. Recently I came across another chart from Schwab showing why diversification across borders is beneficial. The following chart displays the annual returns in 11 regions/countries from 2006 thru 2016:

Click to enlarge

Source: Why Global Diversification Matters, Schwab

Of the countries/regions shown above, Canada was the worst market in 2015 but was the best in 2016 when oil prices rebounded sharply. Similarly in 2012, German stocks returned 32% or double the returns when compared to US stocks (16%).

In addition, for the noted period the US market was the best performer only in 3 years.

So U.S. investors have to diversify their holdings globally in order to capture from the growth potential of other markets.

Credit Suisse Global Investment Returns Yearbook 2017: A Short Review

Credit Suisse published the latest edition of their famous Credit Suisse Global Investment Returns Yearbook 2017 last month. Unlike the previous years, the free version available online is this year is the summary edition. Investors can find a fascinating collection of investment stats in this yearbook. The following are two charts from this year’s edition.

1.Relative Sizes of World Stock Markets: 1899 vs.2016:

Click to enlarge

2.  Industry weights in the USA and UK, 1900 compared with 2017


Source: Credit Suisse

Also see: 

FTSE 100 Exposure by Geographic Revenue vs. Domicile

The British equity market has recovered strongly since the Brexit decision early last year. One of the main reason for the resilence of British stocks is that most of the revenues of the FTSE 100 firms come from abroad. As a result, the FTSE 100 firms are dependent on the economies of foreign countries than the domestic market. Due to its former colonial roots many of UK’s top multinational firms have strong presence in other countries especially in emerging countries which used to be ruled by the British. Some of these multinational firms such as Unilever(UL) and BP(BP) have had operations in emerging markets since the 19th century.

In general, investing in FTSE 100 companies is more of a bet on other countries than the UK.  According to an article at Schroder’s only 29% of the revenues of FTSE 100 firms come from the UK.

The following graphic shows the revenue source for FTSE 100 firms by country/region:

Click to enlarge

Source: The road to Brexit: what’s next for investors?, Schroder’s

The US is a top market for Footsie firms than France and Germany.

Related ETF:

  • iShares MSCI United Kingdom Index (EWU)

Disclosure: No Positions


Potential Winners and Losers from Trump’s Policies

The following is a simple chart showing potential winners and loser’s from Trump’s policies:


Source: Evaluating the Trump Effect on Global Equities by Mark Phelps, Dev Chakrabarti, AB Blog, Mar 2, 2017

According to the authors of the above article, US small and mid-caps appear attractive based on three major variables—tax cuts, tariffs and the US dollar, as they focus on the domestic market.

Also seeRBC: 20 Canadian Stocks To Gain From Trump’s Policies