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Bank Stocks Back in Black After Brutal Drop

NEW YORK (TheStreet) -- Most bank stocks on Tuesday recovered some of the heavily losses over the previous two sessions.

The Dow Jones Industrial Average (^DJI) was up 0.5%, while the S&P 500 (^GSPC) added 0.8% and the NASDAQ Composite (^IXIC) rose 0.9%, with investors' hunting for bargains switching the market's direction after the deep losses over concerns of slowing manufacturing growth in the U.S. and China, tacked onto fears of capital flight from emerging market economies.

Also putting a positive spin on Tuesday's market action was a report from the Congressional Budget Office projecting another significant drop in the federal budget deficit.

The CBO said it expected the deficit to shrink to $514 billion for 2014, or 3% of the gross domestic product, down from about $680 billion in 2012, and $1.12 trillion during 2012. The CBO said the 3% GDP level is "close to the average percentage of GDP seen during the past 40 years," and that it expects the deficit to shrink further to $478 billion, or 2.6% of GDP in 2015.

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"After that, however, deficits are projected to start rising-both in dollar terms and relative to the size of the economy-because revenues are expected to grow at roughly the same pace as GDP whereas spending is expected to grow more rapidly than GDP," the CBO said, emphasizing the continuing growth of the U.S. national debt. The CBO also emphasized what most observers of Congress already know, which is that "spending is boosted by the aging of the population, the expansion of federal subsidies for health insurance, rising health care costs per beneficiary, and mounting interest costs on federal debt.

"By contrast, all federal spending apart from outlays for Social Security, major health care programs, and net interest payments is projected to drop to its lowest percentage of GDP since 1940 (the earliest year for which comparable data have been reported)," the CBO said.

The KBW Bank Index (I:BKX) rose 1% to 66.28. Once again, the most volatile of the 24 components of the index was First Niagara Financial Group (FNFG), with shares rising 3.3% to $8.49. That cuts the year-to-date drop for the Buffalo, N.Y., lender's shares to 20%. The bank last week announced a major four-year investment program meant to improve its operating performance, which disappointed investors who had already suffered through several years of underperformance during the bank's massive expansion through acquisitions through 2012.

Sell-side analysts on Sunday and Monday were quick to highlight bargains among large-cap and small and mid-cap bank stocks in light of the pullback during January and the first trading session of February. The KBW Bank Index has declined 4% so far this year, following gains of 35% in 2013 and 30% in 2012.

The only large-cap bank stock to decline on Tuesday was Capital One Financial (COF - Get Report), which was down 0.2% to close at $68.72. Capital One's shares trade for 9.4 times the consensus 2015 earnings estimate of $7.30, among analysts polled by Thomson Reuters. Among the 24 component stocks of the KBW Bank index, only Citigroup (C) and JPMorgan Chase (JPM - Get Report) trade at lower forward price-to-earnings valuations.

Citigroup and JPMorgan Chase have their own unique challenges holding back their stock valuations, including ongoing regulatory scrutiny and Citi's continued transformation as assets within its noncore City Holdings subsidiary continue to run off. Citigroup's return on average assets (ROA) was 0.74% and its return on average tangible common equity (ROTCE) was 8.2%, according to Thomson Reuters Bank Insight.

JPMorgan's 2013 ROA was 0.75% and its ROTCE was 11.92%. The company's third-quarter earnings were lowered by $7.15 billion, or $1.85 a share, in provisions for litigation reserves, after tax, in preparation for its $17.5 billion in residential mortgage backed securities settlements with government authorities and private investors during the fourth quarter. The bank's fourth-quarter earnings were lowered by $1.1 billion after tax, or 27 cents a share, for legal expenses, which included the company's deferred prosecution agreement with the Department of Justice for its role in the Bernard Madoff Ponzi scheme. The company's 2012 ROA was 0.94% and its ROTCE was 14.72% in 2012, when its earnings took a significant hit from the "London Whale" hedge trading debacle. During 2011, JPM's ROA was 0.86% and its ROTCE was 15.26%.

Capital One's 2013 ROA was 1.40% and its ROTCE was 16.52%.

This chart shows the stock performance for Capital One, JPMorgan Chase and Citigroup against the KBW Bank Index and S&P 500 since the end of 2011:

COF Chart data by YCharts

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Philip W. van Doorn is a member of TheStreet's banking and finance team, commenting on industry and regulatory trends. He previously served as the senior analyst for Ratings, responsible for assigning financial strength ratings to banks and savings and loan institutions. Mr. van Doorn previously served as a loan operations officer at Riverside National Bank in Fort Pierce, Fla., and as a credit analyst at the Federal Home Loan Bank of New York, where he monitored banks in New York, New Jersey and Puerto Rico. Mr. van Doorn has additional experience in the mutual fund and computer software industries. He holds a bachelor of science in business administration from Long Island University.

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