Three Top Performing Financial Services Funds

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In the Fund Track column Not All Bank Funds Fell Over Past Year on August 13, The Wall Street Journal highlighted three top performing financial services mutual funds. These three funds were up in the past year when most financial stocks and ETFs collapsed. Two of the funds were up more than 10% in the past year. In addition, all three funds were ahead of their peers in this sector. A brief summary of the three funds is presented below.

1. Dryden Financial Services Fund (PFSAX)
Total Assets: $139.5 M
Yield: 0.20%
Expenses: 2.19%
Foreign Stocks: 52.9% of portfolio
Performance YTD: 71.54%

The top three holdings are Canadian banks Bank of Nova Scotia (BNS), Toronto-Dominion bank (TD) and Norwegian Bank DnB NOR ASA.  The fund manager Mark Lynch said:”Canadian banks came through [the crisis] the strongest of any in the world”. The Morningstar rating for the fund is 5-stars and is the number one fund in the category. Other holdings in the portfolio include Nordea bank, BNP Paribas, Societe Generale, Itau Unibanco (ITU), Svenska Handelsbanken, etc.

2.FBR Small Cap Financial Fund (FBRSX)
Total Assets: $189.9M
Yield: 1.17%
Expenses: 1.49%
Performance YTD: 24.14%

FBR Small Cap Financial is a small cap value fund. The top 3 holdings are Webster Financial Corporation, Fifth Third Bancorp (FITB) and Astoria Financial Corporation (AF). In 2008, the fund was down just 8.7%.A few other stocks in the fund include: Glacier Bancorp (GBCI), Key Corp(KEY), First Horizon National Corporation (FHN) and Zions Bancorp (ZION).

3.Burnham Financial Services Fund (BURKX)
Total Assets: $55.0 M
Yield: 3.28%
Expenses: 1.60%
Performance YTD: 17.23%

This is a mid-cap fund with a small asset base of just $55M.  The fund has been avoiding companies that are focused on real-estate in bubble areas such as Arizona, Nevada, California and Florida.

Top holdings in the fund are JP Morgan Chase(JPM), Bank of America(BAC) and Chimera Investment Corporation(CIM). In 2008, the fund had a negative return of 14.8%.

As for the strategy about picking financial stocks in this market, David Ellison, manager of FBR Small Cap Financial Fund said “in some ways the financial sector today is “playing like biotechnology stocks. You take a chance on names that may or may not make it, but if they do make it you’ll win big.” I would agree with his opinion.Indeed most of the bank stocks have become like biotech stocks of the dot com era.Nobody knows which bank would  survive or which bank Uncle Sam would forcibly seize and offer to one of the “too-big-to-fail” banks at dirt-cheap prices. The seizure and subsequent sale of Wamu and National City are some examples.

Note: All data  is from Morningstar. Please do you own research before making any investment decisions.

Tier 1 Capital Ratios Comparison: U.S. Vs. European Banks

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On August 20th, the Journal had a piece titled “At Europe’s Banks, Riskier Tack on Capital” discussing the financial strength of European and U.S.banks.

Banks in continental Europe have strengthened their finances through  “strong earnings, benign markets, dividend cuts and some asset sales”. However unlike their British and American peers, they have not increased their capital by issuance of shares. “So far this year, banks on the Continent have raised only $11.6 billion in new equity capital, compared with $48.3 billion in the U.S. and $26 billion in the U.K., according to figures from Dealogic.”

Continental European bank’s reluctance to raise new capital easily by issuing shares is good for existing shareholders. Long-term investors hate it when companies dilute their holdings by issuing new shares.

However as the article mentions, in the U.S. most banks don’t give a second-thought of issuing new shares. For example, regional bank BB&T (BBT) issued 33.5 million shares at $26 per share on August 18th raising $837.1 M. Four days before the new offering on August 14th, BB&T bought the failed Colonial Bank of Alabama.

Some other examples of share offerings include:

Suntrust (STI) – 124.3 million shares at $13.00 per share
KeyCorp (KEY) – 205.4 million shares at $4.87 per share
U.S. Bancorp (USB) – 139 million shares at $18 per share

Big banks in the U.S. have raised billions of dollars in such new share offerings. One of main reason cited by these banks to issue shares is to raise their capital levels to bring it to the levels required by the regulators that conducted the stress tests. So in a way regulators helped banks dilute the holdings of existing shareholders.

Tier 1 Capital Ratios of select US and European Banks:

Tier1-Capital-Ratios-Europe-US-Banks

Source: The Wall Street Journal

In continental Europe, Swiss-banks UBS (UBS)  and Credit Suisse(CS) have strong Tier 1 capital ratios at 13.2% and 15.5% respectively at the end of June. This is higher than the Tier1 ratios of US banks like Citibank(C), JP Morgan Chase (JPM) and Bank of America (BAC). To bring up Tier1 to at least 10%, BNP Paribas (BNPQY), BBVA(BBV) and Banco Santander(STD) and Unicredit must try to increase their earnings.

ADR Stocks Listed in the NYSE in 2009

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The appetite for foreign stocks among U.S. investors is high since last year despite the credit crisis and the current recession.Last year’s market performance proved that the so-called decoupling theory of emerging markets being different from the developed markets is not entirely correct. In fact,many of the emerging market indices such those in Russia, India, Brazil, China actually fell much more than the developed market indices.

U.S. investors’ attraction towards overseas stocks started increasing after the dot-com bubble burst.These investors hold foreign stocks for a variety of reasons like diversification, high dividend yields,explosive growth in emerging markets,etc.The interest in foreign company stocks via American Depository Receipts (ADRs) continued thru the crisis last year.According to Bank of New York Mellon’s ADR site over 735 New Depositary Receipt Programs from around the world were introduced between Oct. 1,’08 and Aug.17,’09.The majority of these companies were listed in the OTC markets.Some of the well-known companies listed in the OTC markets include: Credit Aricole(CRARY) and Careefour (CRERY) of France, Linde (LNAGY) of Germany,Konica Minolta(KNCAY) of Japan,Standard Bank(DBGOY) of South Africa.The 735 ADRs have very thin daily trading volumes since they are new and are not listed in the organized exchanges.

Four foreign stocks were listed in the New York Stock Exchange this year (Source: The Bank of New York Mellon DR Directory). Lets take a quick look at these four companies.

1.China-based Chemspec International Limited (CPC) is a contract manufacturer of specialty chemicals. The ADR effective date was June 24, 2009. The current market cap is $246M and the company pays no regular dividends. Total sales in 2Q,2009 was $34.2 M, an increase of 8.1% from 2Q,2008. Net Income amounted to $7.9M. Chemspec holds US$69.3 million in cash primarily from the proceeds of IPO.

2.Duoyuan Global Water(DGW) is a domestic water treatment equipment supplier in China. “The Company’s product offerings focus on addressing the steps in the water treatment process, such as filtration, water softening, water-sediment separation, aeration, disinfection and reverse osmosis. It offers a set of more than 80 complementary products across the three product categories: Circulating Water Treatment Equipment, Water Purification Equipment and Wastewater Treatment Equipment.” Since pollution is a major problem in many Chinese cities Duoyuan may be a good pick. Since its June launch, DGW is up more than 50%. The stock closed at $30.42 last Friday. The P/E ratio is 78.81.

3. Denmark-based fixed-line telecom services provider Invitel(IHO) started trading in New NYSE Amex in late February. Invitel has operations in Romania thru its subsidiary Euroweb Romania. The company provides its services to about 17% of population in Hungary. IHO is down 23% since its IPO. “Invitel Holdings’ net income attributable to ordinary shareholders for the quarter ended June 30, 2009 was EUR 16.7 million, or EUR 1.00 per ordinary share”.

4.Votorantim Celulose e Papel(VCP) is a pulp and paper products company based in Brazil.The company also makes wood-free printing and writing papers and specialty papers. VCP is up 114% YTD. Votorantim has 390M shares outstanding and the beta is 2.9.

Top 25 Middle East Banks

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The list Top 25 Banks in the Middle East was published The Banker magazine last month. The National Commercial Bank of Saudi Arabia was the highest ranked bank in the region. But its Tier 1 capital fell 15% last year and it slipped 12 places to end at 120th spot in the world’s top  bank rankings.The second rank was also held by a Saudi Arabian bank. Saudi Arabia-based Riyad Bank doubled its Tier 1 capital in 2008 to $6.1B.

The Top 25 Banks in the Middle East:

Top-25-Middle-East-Banks

Source: The Banker

According to the magazine “The Middle Eastern banking sector has remained relatively isolated from the worst of the crisis in the financial markets, but its banks are being hit indirectly by the wider global economic downturn and plunging commodity prices, in particular oil.”

Are Too Many Financial Institutions in the U.S. the Problem?

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The FDIC shutdown 4 more banks yesterday bringing the total bank failures this year 81. The failed four banks are:

Guaranty Bank of Texas
CapitalSouth Bank of Alabama
First Coweta Bank of Georgia
ebank of Georgia

Guaranty Bank is the 3rd largest bank failure this year with assets of $13 B and deposits of $12 B. Bilbao Vizcaya Argentaria (BBV) of Spain assumed control of Guaranty Bank thru its US subsidiary BBVA Compass. Commenting on the acquisition, the chairman of BBVA Compass Jose Maria Garcia Meyer,  said: “excellent strategic sense” and represents an opportunity for BBVA to expand its presence in the “high growth Sunbelt Region.”

In a Bloomberg Television interview, the analyst Meredith Whitney predicted that more than 300 banks would fail this year. This brings us to the title of my post. Yes. There are too many financial institutions in this country. All these institutions are chasing the fewer number of customers and their deposits. Some of the smaller banks may have to consolidate their operations with other branches. Other banks such as the “problem banks” may have to be closed if they continue to suffer with losses and recovery is not possible in any way.

From the FDIC’s Quarterly Banking Profile, 1Q, 2009:

“The number of FDIC-insured commercial banks and savings institutions reporting financial results declined from 8,305 to 8,246 in the first quarter.During the quarter, the number of insured banks and thrifts on the FDIC’s “Problem List” increased from 252 to 305, and total assets of “problem” institutions rose from $159 billion to $220 billion.”

There are a total number of 8,147  U.S. Credit Unions in the US (Source: CUNA).

This phenomenon of having too many banks is not a problem just in the US. In Spain, Savings banks expanded too fast in the past decade and now must merge with other banks in order to survive. While most Spanish banks are run very conservatively they are still exposed to economic problems such as the growing high unemployment and the collapse of the real estate sector. The following chart shows the growth of savings banks in Spain since 2003:

Spain-Banks-Growth

Source: Euromoney

From a total of 20,871 branches at the start of the decade, savings banks in Spain expanded by more than 4,100 in the next 5 years. The two large Spanish banking giants Santander (STD) and BBVA (BBV) are not interested in acquiring some of these savings banks as they do not want domestic expansion. This is one reason why Bilbao Vizcaya Argentaria (BBV) acquired Guaranty Bank and eyes strong growth in the US markets.

One of the senior banking executive of the two large Spanish banks said:

“There are simply too many of these financial institutions. Ultimately we must reduce installed capacity.”

His statement probably holds true for US as well. Due to high profit margins a large number of banks opened in the US in the past few decades. As the economy contracts and Americans reduce consumption, some of the banks may not be needed.