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10 Most Profitable Banks Trading Below Book Value


Updated with comment on U.S. Bancorp, along with a price target increase, from Bank of America Merrill Lynch analyst Erika Penala.

NEW YORK ( TheStreet) -- "The stocks are so cheap and the fundamentals so generally favorable that, in the absence of bad news, the stocks should drift higher."

That's what Oppenheimer analyst Chris Kotowski said on Sunday, when the analyst considered the strong performance for bank stocks year-to-date, and investor fears of big slides for bank stocks, like the ones seen in April 2010 and in November 2011. "Investors are becoming less skittish about bank stocks and beginning to recognize that the fundamental improvements are for real," he said, adding that "the fact that we have effectively de-coupled from the Euro stress in recent months is illustrated by the fact that the KBW Bank Index (I:BKX) underperformed by only 8% in this most recent round of nail biting vs. 34% for the European banks."

The KBW Bank Index returned 29% year-to-date, through Monday's close at 50.77, following a 25% decline during 2011. All but two of the 24 index components saw year-to-date gains through Monday. Three of the index components saw year-to-date gains of over 50% through Monday's close, while 15 of the index components saw gains of over 25%.

Of course, European-inspired nail biting is very likely to continue, as the various players negotiate a bailout for the eurozone's most troubled institutions, while also setting up a unified regulatory regime, to give the European Central Bank supervisory powers that are now enjoyed by eurozone member nations.

Turning back to the U.S., Kotowski said that "looking first at the most easily quantifiable benchmark, price to tangible book value ... we can see that on average the large-cap bank stocks covered by Oppenheimer are trading at just 56% of their historical (2001-2012) average, and within this average, there are some even more exceptional values."

Several of the best-known industry names that traded well below tangible book value at the end of last year have seen stellar returns since then, but still trade below book. At the other extreme, there are companies trading at relatively high multiples to book value, as investors place a premium on strong and steady earnings performance.

A fine example is U.S. Bancorp (USB), with shares closing at $34.19 Monday, returning 28% year-to-date, following a 2% return during 2011, which itself was rather decent, considering the overall financial sector performance. USB trades for 3.1 times tangible book value, according to Thomson Reuters Bank Insight, but does not appear overvalued, at 11 times the consensus 2013 earnings estimate of $3.04, among analysts polled by Thomson Reuters. After all, the company's operating return on average assets (ROA) for the 12-month period ended June 30 was 1.59%, again, according to Thomson Reuters Bank Insight, while its return on average equity (ROE) for the same period was a solid 14.79%.

Bank of America Merrill Lynch analyst Erika Penala on Wednesday reiterated her "Buy" rating for U.S. Bancorp, while raising her price objective for the shares by two dollars, to $37.00.

Penala said that with since "USB is already trading at a premium multiple on both P/E and P/TBV," many investors are wondering what may be next "in terms of potential catalysts for outperformance." The analyst went on to say that with macroeconomic trends for the second half of this year being "more uncertain," she believes "demonstrated market share gains (loan growth has consistently beat), an established culture of expense control, better diversity from spread income, and strongest return on tangible equity outlook in our coverage universe (2013E = 21.3% vs. 11.6% peer median) translates into EPS defensibility and visibility - suggesting further outperformance."

When discussing the large-cap banks covered by Oppenheimer, Kotowski said "On a price to TBV basis the group is at 1.4x vs. 3.2x in the pre-crisis period," and that "on our franchise fundamental measures they are between 36%-66% of their pre-crisis levels." This means "it is the consensus expectation that these franchises are permanently impaired."

The analyst went on to say that "we continue to believe that, over time, US bank stocks will return at least to their historical 70% relative multiple and this implies substantial upside potential."

According to data provided by Thomson Reuters Bank Insight, there are nearly 600 U.S. banks and thrifts trading below tangible book value. Nearly three-quarters of the group have shown an operating profit over the past 12 months, through the end of the second quarter.

Here are the 10 actively traded U.S. bank stocks -- with average daily trading volume of 40,000 shares -- trading below book value, with the highest 12-month ROA, counting down to the most profitable:

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