WFC Stock: Time to Bail on Wells Fargo & Co?

WFC Stock

Here’s Why You Shouldn’t Give Up on Wells Fargo Stock

Wells Fargo & Co (NYSE:WFC) stock doesn’t make headlines that often, and when it did this time, it wasn’t for a good reason. The illegal sales practice scandal has caused Wells Fargo stock to drop more than 10% month-to-date, an unusually large move for the mega-cap bank holding company.

So, should income investors cross WFC stock off their lists, or should they stay with the company during the stock’s downturn?

I’m leaning towards the latter, and here’s why.

Wells Fargo is one of the largest banks in the U.S., with $1.9 trillion in assets. It has 268,000 employees, more than 8,600 locations, 13,000 ATMs, and a market cap of nearly $240.0 billion.

The sheer size of Wells Fargo means it is very resilient. Serving 70 million customers and one-in-three U.S. households, a few bad loans or an underperforming industry is not going to do much damage to the company’s financials. And indeed, over its more-than-160 years of history, Wells Fargo has survived numerous recessions.

The company is also a solid dividend pick. Right now, Wells Fargo has a quarterly dividend rate of $0.38 per share. And thanks to its subdued stock price in recent weeks, WFC stock has a handsome dividend yield of 3.33%. In the past five years, the company’s quarterly payout has more than tripled.

But to keep rewarding income investors, Wells Fargo needs to grow its business. And on that front, there has been some good news.

In the second quarter of 2016, Wells Fargo had total average loans of $950.8 billion, up nine percent from the second quarter of 2016. Total average deposits was $1.2 trillion, a four-percent increase from the year-ago period. (Source: “Wells Fargo Reports $5.6 Billion in Quarterly Net Income; Diluted EPS of $1.01; Revenue Up 4 Percent from Prior Year,” Wells Fargo & Co, July 15, 2016.)

Banks make money by lending it to customers at a higher rate than they pay to depositors (although nowadays, they also make money on a million other things as well). Solid growth in loans and deposits is a recipe for a bank’s top line growth. Therefore, it shouldn’t be a surprise that in the second quarter, Wells Fargo’s revenue increased four percent year-over-year to $22.2 billion.

Of course, investors already know that. What they didn’t expect was the bank’s employees opening sham credit cards, debit cards, and other accounts to meet aggressive sales targets. The bank agreed to pay a record fine of $185.0 million to regulators.

But note that Wells Fargo generated over $90.0 billion of revenue and nearly $23.0 billion in net income last year. A fine of $185.0 million wouldn’t really impact the bank’s financials that much.

The damage to WFC stock, on the other hand, has been much more substantial. With the recent drop in Wells Fargo’s stock price, nearly $25.0 billion of the company’s market value has evaporated. Does WFC stock deserve a beating for this scandal? Yes. But does the stock deserve a loss of this size? That’s debatable.

With the drop in WFC stock, the company’s valuation suddenly becomes attractive. Trading at $45.60 on Wednesday morning, Wells Fargo stock has a price-to-earnings (P/E) multiple of just 11.25 times. If you use the expected earnings for next year, you’d see that the company has a forward P/E of just 10.88 times.

The Bottom Line on WFC Stock

Wells Fargo stock was already a favorite among value investors, the most notable one being Warren Buffett. By the end of the second quarter, Buffett’s Berkshire Hathaway Inc. (NYSE:BRK.B) owned 479.7 million shares of Wells Fargo, worth a whopping $22.7 billion at the time. (Source: “Form 13F Information Table,” U.S. Securities and Exchange Commission, August 15, 2016.)

Buffett is not the only billionaire investor who has a sizable stake in WFC stock. Ken Fisher’s Fisher Asset Management, LLC owned nearly 19-million shares of Wells Fargo by the end of June, valued at $911.4 million. (Source: “Form 13F Information Table,” U.S. Securities and Exchange Commission, last accessed september 20, 2016.)

Even though interest rates are low—which hurts banks’ profits—and regulations have become tighter, Wells Fargo still managed to churn out handsome profits and distribute some of them to shareholders. Moreover, the recent drop in WFC stock might have been an overreaction, which could represent an opportunity. And that, my dear reader, is why you shouldn’t give up on WFC stock just yet.

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