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5 Reasons Why Financials Will Outperform: Goldman Sachs

KBW recommends conservative investors should consider a more defensive stock portfolio.

Goldman's third reason for financial names to outperform the broad market is that higher returns on equity should lead to higher valuations. Financial stocks are still producing returns on equity below 10% with price-to-book ratios of 1.1, according to the firm. The returns may stay low for some time as banks meet higher capital requirements and increased regulatory costs, but the analysts see median ROE improving to 10% by 2014.

Fourth, following the results of the Federal Reserve's Comprehensive Capital Analysis and Reviews (CCAR), banks are increasing dividends and share buybacks by 16% and 17%, respectively, versus last year. "Assuming payout ratios increase by a comparable amount in 2014, effective yields could reach 6.7% for the industry (2.5% dividend yield)," according to Goldman.

Fifth, rising home prices should boost earnings. Goldman economists expect home prices to rise 3% through third quarter of 2013 and then 4% through the third quarter of 2014. Goldman Sachs financial analysts believe that a 5% rise in home prices would increase their earnings estimates by 13%. "While the recovery in housing is well understood, it continues to provide strong support for earnings and credit trends with risks skewed to the upside," the analysts wrote.

-- Written by Shanthi Bharatwaj from New York

Disclosure: TheStreet's editorial policy prohibits staff editors and reporters from holding positions in any individual stocks.
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