5 Booming Bank Stocks Poised to Fall (Update 3)

Updated market close information and with comments on the possible mortgage settlement from real estate attorney and adjunct New York University law professor Adam Leitman Bailey.

NEW YORK ( TheStreet) -- It looks like a week for bank stocks -- and their investors -- to take a breather.

After the amazing year-to-date run for bank stocks through last Friday's strong employment report, which, according to Deutsche Bank analyst Greg Poole provided "further evidence the economy is entering into a self-sustaining, self-reinforcing expansion whereby rising job growth creates the requisite income to fuel consumer spending," the market's eyes this week will turn back to the dreadful mortgage mess.

After a year of difficult negotiations, the largest mortgage servicers, including Bank of America ( BAC), JPMorgan Chase ( JPM), Wells Fargo ( WFC), Citigroup ( C) and Ally Financial, are expected to enter into a $25 billion settlement over questionable foreclosure practices with federal regulators and attorneys general for most states, with the possible major exceptions of New York, California, and Nevada.

The settlement will include principal forgiveness and could help banks and their investors to better-gauge long-term mortgage putback risk, however, if the servicers are not granted sufficient immunity from a new round of putback lawsuits, or if one or more key states refuse to sign-on, the result will be more confusion, and major pressure on the large banks.

Just last Friday, New York State Attorney General Eric Schneiderman threw another mortgage monkey wrench into the mix, suing Bank of America, JPMorgan Chase, Wells Fargo and Mortgage Electronic Registration Systems, or MERS, which helps the industry to track mortgage ownership and servicing rights, in order to simplify securitization.. Schneiderman alleged that the mortgage industry's creation of MERS resulted in "myriad of fraudulent, deceptive, and illegal acts and practices."

If MERS is not included in the coming mortgage settlement, and/or if Schneiderman is not aboard -- which could reduce the political career boost he enjoys from mortgage-related press conferences -- the mortgage mess will just roll on.

Adam Leitman Bailey -- a real estate lawyer and adjunct professor at New York University -- is a mortgage settlement skeptic, saying that if the government is "trying to improve public sentiment because it is a political year, then this is a good idea," but that "while we know what the banks are giving up, we we don't know what they are getting," and the settlement "could severely set a bad precedent hampering the American way of building equity in homes."

Getting back to the bank stock pop, the The KBW Bank Index ( I:BKX) has now risen 14% year-to-date through Monday's close at 44.70, after pulling back a painful 25% in 2011. Among the 24 index components, Bank of America has run away with the prize so far, with shares returning 45% year-to-date through Monday's close at $7.97, after last year's epic 58% slide.

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While Bank of America's shares were still cheaply priced at just 0.7 times tangible book value, according to HighlineFI, the rising share price, combined with a slew of earnings estimate cuts by analysts, had the shares trading for nearly 11 times the consensus 2012 EPS estimate of 72 cents, among analysts polled by Thomson Reuters.

In the current environment, that is a pretty high multiple to forward earnings.

KBW analyst Fred Cannon said on Monday that "there is no reason to believe, in our opinion, that financials are fundamentally undervalued and can continue to outperform the S&P without expanded earnings capacity."

Bank of America has shored up its regulatory capital ratios, in part, by selling earning assets, including its foreign credit card operations, and has understandably missed out on the growth in noninterest-bearing deposits that helps banks maintain their net interest margins in the prolonged low-rate environment.

Investors may still see continued upside for BAC over the short term, because of the discount to book, but according to Cannon, "as financials reach their book value, we believe that investors will increasingly turn to earnings capacity."

And serious talk on expanded earnings capacity for Bank of America will require a real mortgage settlement, or several more years of working through the mortgage mess.

Interested in more on Bank of America? See TheStreet Ratings' report card for this stock.

Shares of Citigroup were up 27% year-to-date through Monday's close at $33.30, after a painful 44% decline in 2011.

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While Citigroup has the least mortgage putback exposure among the "big four" U.S. banks, the settlement will still be important for the company.

But the real concern for investors is Citi's international exposure, with 63% of 2011 revenue coming from outside the U.S. Then again, over the long haul, this could be the company's greatest strength for investors looking to ride economic growth wherever it takes place.

Unlike Bank of America, which is now trading at a relatively unattractive multiple to forward earnings, Citigroup trades for 8.4 times the consensus 2012 EPS estimate of $3.99, and for just under 0.7 times tangible book value.

So what could be wrong here for investors? It depends on your investment horizon.

For long term investors, Citi is an intriguing play, with such geographic diversity and attractive price multiples, as CEO Vikram Pandit continues to trim noncore assets.

Over the short haul, expect plenty of volatility as the European situation plays out, along with the negotiations with Iran, and the effect on oil prices, not to mention continuing unrest in Egypt and Syria.

Interested in more on Citigroup? See TheStreet Ratings' report card for this stock.

Another heavily discounted name seeing a tremendous 2012 pop is Regions Financial ( RF), with shares returning 30% year-to-date through Monday's close at $5.59, after the shares gave up 38% last year.

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The Alabama lender has been one of the more volatile banking names, in part because it still owes $3.5 billion in federal bailout funds received in 2008 through the Troubled Assets Relief Program, or TARP, but also because of the long period of negotiations before the company agreed in January to sell its Morgan Keegan brokerage subsidiary to Raymond James Financial ( RJF) for "total consideration of $1.18 billion."

Excluding $731 million in non-cash goodwill impairment charges in the fourth quarter related to the Morgan Keegan deal, Regions' fourth-quarter income from continuing operations was nine cents a share. The consensus among analysts polled by Thomson Reuters is for Regions to earn 46 cents a share in 2012, followed by EPS of 69 cents in 2013.

FIG Partners analyst Christopher Marinac has a "Market Perform" rating on Regions, with a $5.75 price target, and said late last month that the Federal Reserve's stress tests results will likely " pave the way for a common equity raise by late March 2012."

Marinac said that some investors believe that "that minimum capital necessary could be as low as $650 million," for Regions to repay TARP, however, with "the Basel III global standards soon to adopted by the Banking industry," the analyst thinks the capital raise will be closer to $1 billion, so that Regions will maintain a Tier 1 common equity ratio above 8%.

The shares traded for 0.9 times tangible book value at Friday's close, and a rather high multiple of 12.5 times the consensus 2012 EPS estimate.

Obviously, some investors have made a boatload of money on Regions this year, depending on their timing, but long-term investors need to keep in mind that the company faces a long road back to strong earnings performance.

Interested in more on Regions Financial? See TheStreet Ratings' report card for this stock.

SunTrust ( STI) of Atlanta has seen its shares rise 25% year-to-date through Monday's close at $22.10, after a 40% decline in 2011.

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Unlike its southern competitor Regions, SunTrust doesn't face TARP overhang, however, the company is keyed-in to the mortgage mess, reporting fourth-quarter mortgage production related losses of $62 million, compared to mortgage production income of $41 million in the third quarter. The company increased its mortgage putback provisions, while also writing-down mortgage servicing rights, in anticipation of increased mortgage payoffs as borrowers take advantage of the Home Affordable Mortgage Program, or HARP.

HARP was expanded by President Obama to allow borrowers with mortgages held by Fannie Mae ( FNMA) or Freddie Mac ( FMCC) to refinance their loans at today's low rates, even if the home has declined so much in value that the loan-to-value ratio (LTV) would be above the current limit of 125%.

So HARP is good news for SunTrust's credit quality, presumably lowering the risk of foreclosure, but the company also expects to take it on the chin as loan balances and servicing income decline.

The shares trade just below book value, according to HighlineFI, but for nearly 13 times the consensus 2012 EPS estimate of $1.74.

So, SunTrust looks a little frothy, in the current environment.

Interested in more on SunTrust? See TheStreet Ratings' report card for this stock.

Synovus Financial ( SNV) of Columbus, Ga., is another volatile southern banking name, affected by TARP overhang. The shares were up 33% year-to-date through Monday's close at $1.88, after sinking 45% in 2011.

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The company owes $967.9 million in TARP money.

Synovus has reported operating profits for two consecutive quarters, with fourth-quarter earnings available to common shareholders of $12.8 million, or 14 cents a share, following third-quarter earnings of $15.7 million, or 17 cents a share.

The shares trade for 0.8 times tangible book value and for nearly 19 times the consensus 2012 EPS estimate of 10 cents.

For Synvous's long-term shareholders, the big theme is "ultimate recapture of its $793 million available deferred tax assets valuation worth $1.01 per share," according to FIG Partners analyst Christopher Marinac," much of which "will be redeployed towards the $968 million of TARP payback necessary in 2013."

A fourth-quarter bright spot for the analyst "was the reduction in excess liquidity held with the Federal Reserve Bank, which fell to $1.567 Billion from $2.751 Billion or by 43%," which "is a superb signal that regulators are becoming more comfortable with SNV's core funding and capacity to earn out of its asset problems."

Marinac rates Synovus "Outperform," with a $2.00 price target, saying on Jan. 25 that his "outlook for the stock remains as one for modest profitability, tangible book value holding above $2.00 with ongoing profit potential of $0.25 under more normalized conditions. "

Synovus reported a Tier 1 common equity ratio of 8.49% as of Dec. 30, and investors are clearly hoping for a smooth return to book value, with the DTA recapture funding most of the company's eventual TARP repayment without a dilutive common equity raise.

The jury is still out on that one, and in the meantime, investors can count on continued volatility for the shares.

>>To see these stocks in action, visit the 5 Booming Bank Stocks Poised to Fall portfolio on Stockpickr.

-- Written by Philip van Doorn in Jupiter, Fla.

To contact the writer, click here: Philip van Doorn.

To follow the writer on Twitter, go to http://twitter.com/PhilipvanDoorn.

To submit a news tip, send an email to: tips@thestreet.com.

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 TheStreet.com 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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