However, the two largest recipients of TARP money – Citigroup Inc. (NYSE: C) and Bank of America Corp. (NYSE: BAC) – have yet to pay back their loans and the government is still exposed to possible losses from those two heavyweights, as well as from smaller U.S. banks.

The government netted roughly $4 billion – the equivalent of a 15% annual return – from  eight of the biggest banks that have fully repaid their obligations to the government, according to calculations by The New York Times.

Those financial institutions consist of:

• Goldman Sachs Group Inc. (NYSE: GS) – $1.4 billion in profit.
• Morgan Stanley (NYSE: MS) – $1.3 billion in profit.
• American Express Co. (NYSE: AXP) – $414 million in profit.
• Northern Trust Corp. (NYSE: NTRS), The Bank of New York Mellon Corp. (NYSE: BK),    State Street Corp. (NYSE: STT), U.S. Bancorp (NYSE: USB) and BB&T Corp. (NYSE: BBT) – $100 million to $334 million in profit.
• Fourteen smaller banks that have repaid their debt – $35 million in profit.

JPMorgan Chase & Co. (NYSE: JPM) and Capital One Financial Corp. (NYSE: COF) could yield an additional profit of more than $3.1 billion in the coming month, but the final number is dependent on how much they will pay to buy back their warrants, The Times said.

Additionally, the U.S. Federal Reserve earned $16.4 billion through the first six months of the year, thanks to a range of rescue programs – including loans to investment banks and purchases of mortgage-backed securities – while the Federal Deposit Insurance Corp. (FDIC) saw a profit of more than $7 billion on the fees it charged through a program that guaranteed debt issued by banks. Still, the FDIC has agreed to assume most of the risk on $80 billion in loans and other assets, and expects to eventually have to cover $14 billion in future losses on deals cut so far, according to The Wall Street Journal.

“Taxpayers should heave a sigh of relief that the investment in banks protected them from even more catastrophic losses from more bank failures,” said Aswath Damodaran, a finance professor at the New York University’s Stern School of Business.

The government said last year that its decision to purchase preferred shares from hundreds of banks ravaged by mortgage defaults would yield a positive return, including a 5% quarterly dividend and warrants to buy stock in the banks at a set price over 10 years.

As many banks stanched their losses and began to turn a profit, the government authorized them to buy back the preferred stock, make the dividend payments for each quarter since October. Banks also were permitted to buy back the warrants, which had a low fixed price – and which provided therefore provided a windfall for the government as the markets rallied.

The U.S. should consider imposing an automatic ban on dividend payments by lenders when “the bank stock price plummets and the banks aren’t doing well,” New York Federal Reserve Chairman William Dudley told CNBC, expressing concern over how the payouts could end up dissipating the banks’ capital.

Should a bank lose capital because of a falling stock price, it could raise more capital by issuing debt that is convertible, Dudley said.

Had private investors taken matching stakes in the banks in October, they would have tripled their investment to roughly $12 billion, or 44% on an annual basis, according to University of Louisiana at Lafayette finance professor Linus Wilson, who analyzed the data for The Times. But there’s a good reason for that. Under this hypothetical scenario, the private investors would have demanded a higher rate of return, bought in at a lower price, or both – because of the high risk that they would have been incurring.

But the government wasn’t in this to make a profit – it was working to stabilize a financial system that was quickly losing the public’s confidence, experts note.

“Had these banks tried to raise money any other way, they probably would have had to pay quite a bit more than the government received,” Espen Robak, head of Pluris Valuation Advisors, which analyzes the value of large financial institutions, told The Times.

Threat Posed by Loss-Shares

Despite the encouraging news that taxpayers are getting strong returns on their reluctant investments, the loan guarantees invested in the two largest TARP recipients – Citigroup and Bank of America – have not yet been repaid. Citi received $50 billion in TARP funds, while BofA got $45 billion.

In the last month, Citigroup has seen its stock surge roughly 58%, along with a 19% return in the shares of BofA, which leaves the U.S. government sitting on a combined $18 billion of profits from the warrants it purchased last year.

Those banks also hold troubled mortgages and other loans that no one can put a value on – which is why these so-called “toxic assets” have yet to attract buyers.

“No one has a good handle how much is out there,” Elizabeth Warren, the chairman of the Congressional Oversight Panel who acts as the so-called “TARP watchdog,” told Reuters Television in an interview last month. “Here we are 10 months into this crisis…and we can’t tell you what the dollar value is.”

More than 50 deals brokered by the FDIC to absorb losses at small banks affected by the financial crisis still remain in place. These agreements to assume the risk of loans and other assets from the consolidation of failed banks are known as “loss-shares,” and are an important inducement for healthy banks to take over busted institutions.

The FDIC brokered the sale of Alabama’s Colonial BancGroup Inc.’s (OTC: CBCGQ) deposits to BB&T after Colonial failed. It also agreed to help BB&T buy Colonial’s $15 billion portfolio of loans and other assets and absorb over 80% of any future losses. Under the deal, BB&T’s losses are capped at $500 million and – in the unlikely event the entire portfolio becomes worthless – the FDIC is on the hook to cover the rest.

The FDIC sees these deals as a way to keep loans and other assets in the private sector, as well as mitigate the cost of cleaning up the industry.

It would cost the FDIC considerably more to simply liquidate the assets of failed banks, especially with more than 400 banks on its “problem list.” Loss-share deals will cost $11 billion less than if the agency seized assets and sold them, The Journal said, citing the FDIC.

So far this year, 109 banks have failed – quadruple the amount of failures in 2008. The FDIC’s recouping any lost money from the loss-share deals, many of which are in place for up to 10 years, is dependent on the recovery of the economy

Some worry that bankers may tire of the partnerships with the FDIC and not work toward fixing bad loans because the bulk of the losses will fall to the government. But agency officials maintain that because banks still have a “material” exposure, they will be reluctant to do this.

“There is certainly an incentive for the banks to play fair and do right, but there is never a limit on the ability of the private sector to shift cost to the government,” former FDIC general counsel John Douglas told The Journal.

A typical deal has the FDIC agreeing to cover 80% of future losses on a big portion of the assets, and 95% on the rest. However, the FDIC does not expect to see the 95% scenario play out on any of the deals it has made so far.

Source: U.S. Turning Profit on TARP, but Big Loans Remain in Banks’ Hands

• The introduction of the new iPhone 3GS and a price cut for the 8-gigabyte iPhone 3G propelled Apple Inc. (Nasdaq: AAPL) to easily exceed Wall Street expectations for its third quarter ended June 30. The company reported a net income of $1.23 billion, or $1.35 a share, on revenue of $8.34 billion, compared to a net income of $1.07 billion, or $1.19 a share, on revenue of $7.46 billion in the same quarter last year. Analysts were expecting earnings of $1.17 a share on revenue of $8.20 billion. Apple, which could lead a second-half tech sector rebound, sold 5.2 million iPhones in the quarter, compared to a mere 717,000 in the same quarter in 2008. The company’s computer business edged up 4% year-on-year, with sales totaling 2.6 million Macintosh computers in the quarter. Apple sold 10.2 million units of its ubiquitous iPod, down 7% from the previous year’s quarter.

• The Coca-Cola Co. (NYSE: KO) yesterday (Tuesday) reported better-than-expected second-quarter profit, as growth in emerging markets such as India and China helped offset the impact of the stronger U.S. dollar. Second-quarter profit rose 43% from the same period last year to $2.04 billion, or 88 cents per share. Sales fell 9% from last year, to $8.27 billion, something the company attributed to a rise in the value of the dollar. But international sales volume gained 5% in the second quarter, even as U.S. sales fell 1%.

• The $3 billion bridge loan CIT Group Inc. (NYSE: CIT) may not be enough to keep the lender out of bankruptcy, according to a filing with the Securities and Exchange Commission SEC. With $1.7 billion in debt payments due by year’s end, and another $8 billion coming due in 2010, analysts at CreditSights have said the company may need about $6 billion to avoid bankruptcy protection, the Wall Street Journal reported.

• Neil Barofsky, the special inspector general overseeing the Troubled Asset Relief Program (TARP), said yesterday (Tuesday) that Treasury officials have not done enough to ensure American tax dollars are being used appropriately, CNNMoney reported. The TARP Czar said the Treasury should require banks to report exactly how they’re using their bailout dollars. Barofsky also wants Treasury to report the actual worth of the assets it has purchased via the bailout. The inspector general’s office has launched 35 criminal and civil investigations into a range of allegations from accounting and securities fraud to insider trading and public corruption.

• Caterpillar Inc. (NYSE: CAT) stock jumped more than 7.5% yesterday (Tuesday) after the company boosted its 2009 profit forecast. Second-quarter profit tumbled 66% to $371 million, or 60 cents per share, but the company said it saw evidence that government stimulus plans, particularly in China, are beginning to have an effect. Caterpillar stock surged $2.83 a share, or 7.72%, to close at $39.48.

• Investment management firms BlackRock Inc. (NYSE: BLK) andState Street Corp. (NYSE: STT) beat and missed Wall Street expectations in the second quarter. BlackRock reported a net income of $218 million on revenues of $1.03 billion, or $1.59 a share for the quarter ended June 30, down from last year’s net income of $274 million, or $2 a share. Analysts at FactSet Research were expecting BlackRock’s earnings to be $1.58 a share on revenues of $1.01 billion. Meanwhile, State Street posted a net loss of $3.18 billion, or $7.12 a share on revenues of $2.12 billion. That compares to a net income of $548 million, or $1.35 a share. Analysts were expecting earnings of 97 cents on revenues of $2.16 billion.

• Merck & Co. (NYSE: MRK) may consider partnering with another company to invest in the consumer-health operations it will inherit with its planned purchase of Schering-Plough Corp. (NYSE:SGP) Chief Executive Officer Richard Clark said in an analyst conference call yesterday (Tuesday). “Certainly there will have to be an investment in the consumer business,” Clark said, adding that the drug maker is now considering whether “we do it alone or can we do it with a partner?” Clark later said in an interview withThe Wall Street Journal that is was too early to say which direction Merck was leaning.

• A tough advertising market led to a decline in sales for Yahoo Inc. (Nasdaq: YHOO), but the search giant still managed to beat Wall Street estimates. For the quarter ended June 30, Yahoo reported a net income of $141 million, or 10 cents a share on revenues of $1.57 billion, compared to a net income of $131 million, or 9 cents a share on revenues of $1.79 billion. Wall Street estimates called for average earnings per share of 8 cents and revenues of $1.14 billion.

Source: Investment News Briefs Wednesday, July 22, 2009

• China will increase its annual oil refining volume by 18% over the next two years to meet expected long-term demand. China’s State Council also said that it would boost stockpiles and encourage petro companies to merge operations, Bloomberg reported.

• Lowe’s Cos. Inc. (NYSE: LOW) reported an analyst-beating quarterly profit and raised its full-year forecast. The No. 2 home improvement retailer cited improving consumer confidence and signs the housing market may be bottoming, Reuters reported.

• Toshiba Corp. has begun a $3 billion stock sale to raise capital after posting a record loss last year. Japan’s biggest semiconductor maker plans to offer 870 million new shares priced at a 3% to 5% discount to the stock’s closing price the day the sale ends, which may be as early as next week, Bloomberg reported.

• Seeking to pay back government loans, American International Group Ltd. (NYSE: AIG) is speeding up plans to list its Asian subsidiary, American International Assurance Co. Ltd., through an initial public offering, Reuters reported. AIG hopes the IPO will raise more than $4 billion, a small number considering the insurer has racked up a $180 billion debt to the U.S. government.

• President Barack Obama will announce today (Tuesday) a federal standard for greenhouse-gas emissions from vehicles, the first nationwide limit on pollution scientists say is triggering global climate change.  The emissions limit will be coordinated with new national fuel economy standards for cars and trucks, Bloomberg reported, citing people familiar with the matter.

• U.S. homebuilders confidence rose in May to the highest level since September, providing further evidence that the housing slump that started in 2006 may be closer to a floor. The National Association of Home Builders/Wells Fargo index of builder confidence rose to 16 from 14 the prior month, the Washington-based agency said yesterday (Monday), capping the first back-to-back gain since February 2008. A reading below 50 means most respondents view conditions as poor, Bloomberg reported.

• State Street Corp (NYSE: STT), the Boston-based custodial bank and asset manager, said it plans to sell $1.5 billion of stock and will also sell notes to help repay government bailout funds. The bank said it took a $3.7 billion charge to move some assets onto its balance sheet at a loss, and will said it will use proceeds from the securities sales to help repay a $2 billion infusion from the Troubled Asset Relief Program, Reuters reported.

• Oil prices rose sharply yesterday (Monday), as violence in Africa’s top crude exporter Nigeria and a fire at a key U.S. East Coast refinery revived concern about supplies.  U.S. crude for June jumped $1.98 to $58.32, while London Brent for July rose $2.51 to $58.49.  The gains came after Nigerian militants said they had blown up two oil and gas pipelines in the Niger Delta and would blockade waterways in the region in an effort to disrupt energy exports from the Organization of Petroleum Exporting Countries (OPEC) member, Reuters reported.

• An earnings surprise and a buy recommendation on a major U.S. bank sent U.S stocks skyward yesterday (Monday). The Dow Jones Industrial Average had its best day since April 9, zooming 235.44 points, or 2.85%, to close at 8,504.08 – as 29 of the 30 stocks that make up that closely watched blue-chip index rose. The Standard & Poor’s 500 Index recouped  more than half of last week’s losses, advancing 26.83 points, or 3%, to close at 909.71. Home-improvement retailer The Lowe’s Cos. (NYSE: LOW) topped earnings estimates – sending its shares up more than 8% — while one analyst recommended buying shares of Bank of America Corp. (NYSE: BAC), and set a $15 price target. BofA’s shares closed yesterday at $11.72, up 9.84% each. The Nasdaq Composite Index surged 52.22 points, or 3.1%, to end the day at 1,732.36.

Investment News Briefs Tuesday, May 19, 2009

Judicial Watch said the Treasury initially said it had no records about the meeting. It didn’t release a transcript of discussions between government officials and bankers.

However, documents obtained under a Freedom of Information Act request confirm that Paulson and other Treasury officials gave nine major banks no options other than allowing the government to take $250 billion in equity.

Judicial Watch said on its Web site that after it made inquiries, the Treasury insisted on Feb. 4 it had no documents about the historic meeting.

Furthermore, “the cover-up continues, as the Obama administration protects Timothy Geithner by withholding a key document about his role in this infamous bankers meeting,” Judicial Watch president Tom Fitton said in a statement.

The group says suggested edits of the “talking points” for the meeting by Treasury Secretary Tim Geithner, then President of the New York Federal Reserve are being withheld by the Obama administration.

Saying the nine U.S. banks were “central to any solution” of the credit crisis, Paulson told their leaders in the meeting in Washington on October 13, 2008, to take the government aid voluntarily or be forced to by regulators.

“We don’t believe it is tenable to opt out because doing so would leave you vulnerable and exposed,” the document said, citing Paulson talking points. “If a capital infusion is not appealing, you should be aware your regulator will require it in any circumstance.”

Within four hours of the start of the meeting the CEOs wrote by hand the names of their institution and multibillion dollar amounts of “preferred shares” to be issued to the government, the documents show.

“These documents show our government exercising unrestrained power over the private sector,” Fitton said in a statement.

The banks were represented by Vikram Pandit of Citigroup Inc. (NYSE: C), Kenneth Lewis of Bank of America Corp. (NYSE: BAC), John Thain of Merrill Lynch & Co., now part of BofA, Jaime Dimon of JP Morgan & Co. (NYSE: JPM), Richard Kovacevich of Wells Fargo (NYSE: WFC), John Mack of Morgan Stanley (NYSE: MS), Lloyd Blankfein of Goldman Sachs Group Inc. (NYSE: GS), Robert Kelly of Bank of New York Mellon Corp (NYSE: BK), and Ronald Logue of State Street Corp. (NYSE: STT).

A spokesman for the Treasury, Andrew Williams, didn’t return calls seeking comment from Bloomberg News.

The Treasury has invested $199.1 billion in the bank-preferred share program, with $1.2 billion since returned by 12 institutions, according to government data, Bloomberg reported.

Despite his heavy-handed nature, Paulson succeeded at stabilizing the financial services industry, J.P. O’Sullivan, an SNL Financial bank analyst in Charlottesville, Va., told Bloomberg.

“It was a calming mechanism,” O’Sullivan said.

This isn’t the first time Paulson has been accused of strong-arming bankers to bend to his will.

As previously reported in Money Morning, Bank of America CEO Kenneth Lewis said in testimony before New York’s attorney general that Paulson and Federal Reserve Chairman Ben S. Bernanke pressured him not only to move ahead with a merger with Merrill Lynch despite reservations, but also to stay quiet about the mounting losses at the crumbling investment bank.

Lewis went on to testify that he felt Paulson threatened him with losing his job if he didn’t go along with completing the Merrill Lynch deal.

“I can’t recall if he said, ‘We would remove the board and management if you called it [off]‘ or if he said ‘we would do it if you intended to.’ I don’t remember which one it was,” Mr. Lewis said.

Source:  Watchdog Alleges Obama Administration in “Cover Up” of Docs from Treasury Meeting with Banks

Banks that require funding will have 30 days to present a capital-raising strategy to regulators and then six months to implement it.

It is unlikely that any of the banks will require any additional taxpayer money.

J.P. Morgan Chase & Co. (NYSE: JPM), Goldman Sachs Group Inc. (NYSE: GS), MetLife Inc. (NYSE: MET), American Express Co. (NYSE: AXP), Bank of New York Mellon Corp. (NYSE: BK), BB&T Corp. (NYSE: BBT), Capital One Financial Corp. (NYSE: COF), U.S. Bancorp (NYSE: USB), and State Street Corp. (NYSE: STT) are in the clear in terms of having adequate capital cushioning.

The following banks will be required to raise these assigned amounts of capital:

• Bank of America Corp. (NYSE: BAC): $34 billion.
• Wells Fargo & Co. (NYSE: WFC): $13.7 billion.
• GMAC LLC (NYSE: GMA): $11.5 billion.
• Citigroup Inc. (NYSE: C): $5.5 billion.
• Morgan Stanley (NYSE: MS): $1.8 billion.
• Fifth Third Bancorp (NASDAQ: FITB): $1.1 billion.
• KeyCorp (NYSE: KEY): $1.8 billion.
• PNC Financial Services (NYSE: PNC): $600 million.
• Regions Financial Corp. (NYSE: RF): $2.5 billion.
• SunTrust Banks Inc.( NYSE: STI): $2.2 billion.

The banks will have until June 8 to develop a plan to raise the required capital and until Nov. 9 to implement it. They may choose to raise the money in a variety of ways. They may sell assets, court private investment or convert the government’s existing preferred shares into common stock.

Citigroup has already announced plans to convert a portion of the government’s $45 billion stake into common stock, a move that will give the federal government a 36% stake in the company. Other regional banks – such as Fifth Third Bank or Regions Financial – could be forced to take similar actions, but are loath to do so, as most of the moves would be dilutive to existing shareholders.

Citigroup has agreed to sell Nikko Cordial Securities to Sumitomo Mitsui Financial Group (OTC: SMFJY) for about $5.5 billion. The deal, which is to be completed by Oct. 1, is expected to boost the bank’s Tier-1 capital ratio by approximately 27 basis points.

Morgan Stanley plans to close its capital gap by selling assets or stock to private investors, a person briefed on the plan told The New York Times. And Wells Fargo said late yesterday that it plans to sell $6 billion in new common stock in an effort to raise required capital.

While Bank of America has said it doesn’t agree with the Fed’s conclusions, the bank yesterday outlined its strategy to accommodate the government’s demands. BofA is exploring the sale of such business units as its First Republic private-banking unit and asset manager Columbia Management, The Wall Street Journal reported.

The sale of those businesses could raise a combined $4 billion, David Hendler of CreditSights Inc. told The Journal. BofA could also get about $8 billion for its partial stake in China Construction Bank Corp.

Beyond that BofA would have the options of converting the government’s existing $45 billion investment, or $33 billion in private preferred shares, into common stock.

The Fed wants bank-holding companies to achieve a Tier 1 risk-based ratio of at least 6%, and a Tier 1 Common risk-based ratio of at least 4% by the end of 2010. The goal is to get banks to the point where they are stable enough that they can borrow from private investors without a Federal Deposit Insurance Corp. (FDIC) guarantee, people familiar with the matter told Bloomberg News.

“Going forward, we just need banks to be able to issue debt without the FDIC backing – that’s the next stage for these bank names in terms of evaluating their health,” Mark Bronzo, a money manager at Security Global Investors LLC, which oversees $21 billion in Irvington, N.Y., told Bloomberg.

If the banks fail to meet capital requirements, the government will step in to provide the necessary funds. However, it’s unlikely that any more taxpayer money will be needed, as about $110 billion of the original $700 billion in Troubled Asset Relief Program (TARP) funding remains.

Wall Street’s Reaction

The Dow Jones Industrial Average closed down 102.43 points, or 1.2%, yesterday, with the Dow Jones U.S. Financial Services Index down 3.78%. However, Wall Street’s reaction to the tests won’t be fully realized until the market opens later today (Friday).

“I think this will be a confidence-instilling announcement,” Federal Deposit Insurance Corp. Chairman Sheila Bair told a Senate panel Wednesday. “There will be additional needs for capital buffers for some institutions, but I think there will be mechanisms to do that within the next six months.”

Treasury Secretary Timothy F. Geithner said in an interview with PBS television’s “The Charlie Rose Show” that all of the institutions tested already have “significant cushions” of capital and that Americans have every reason to be confident going forward.

“The results will be, on balance, reassuring,” Geithner said.

But some analysts are skeptical about what the bank stress tests actually achieved, or if their standards of evaluation were even valid in the first place. After all, the tests have occupied resources from both the federal government and the private sector for months, and have increased stock market volatility.

“The banks are healing themselves, and it could have been done a lot faster if government had gotten out of the way instead of parking the emergency equipment in the middle of the road,” Gary B. Townsend, a former banking regulator who now runs his own investment firm, told The New York Times.

Also, many bank employees, and even Elizabeth Warren, who chairs the Congressional Oversight Panel for TARP, have expressed concern that the tests weren’t stringent enough.

Last month, Warren gave rise to speculation that another stress test might be needed by the end of the year, after she called the adverse economic scenario employed by the Fed “disturbingly close” to current economic conditions.

In the Fed’s most pessimistic economic forecast, for example, the government projects the unemployment rate will climb to 10.3% in 2010. But unemployment already hit 8.5% in March and many economists are predicting that it rose to 8.9% in April. If that’s the case, it’s not hard to imagine the national jobless rate reaching double digits by the end of the year.

“The stress tests will make a terrific contribution if they are tough and transparent,” Warren said. “If they are not, they will be useless.”

Still, despite the test’s alleged failings, there is a hope that with more transparency and a greater buffer of equity, investor confidence will be restored.

“This is sending a message that the banks need more capital, but their losses are manageable and the system itself is solvent,” Kevin Fitzsimmons, an analyst at Sandler O’Neill told The Times. “Whether it sticks is something else.”

Source: Bank Stress Tests: The Results Are in; Now What?

Martin applied four criteria when examining banks’ health:

Banks that made profits in the very difficult fourth quarter of 2008 and first quarter of 2009 are probably in good shape, especially if their loan-loss provisions exceeded their charge-offs (the amount actually lost.)

Banks that lost money in the fourth quarter and first quarter may or may not be in terminal trouble; it depends on the amount of those losses and whether the red ink is expected to continue to flow going forward.

With the run-up in bank stocks in recent weeks, there’s been an accompanying rise in the ratio of share price to book value (stock price per share/book value per share). If that ratio is still below 30% – even after the recent price increases – the market lacks confidence in the bank’s ability to solve its own problems. Unfortunately, the market currently appears to be overly optimistic about some of the banks that still have considerable ongoing problems.

Management’s dividend policy is less of an indicator than it was just a few short months ago; several banks have sharply cut their dividends in order to repay the Troubled Assets Relief Program (TARP) capital they got in late 2008. Reasonably, profitable banks don’t want the government meddling in their business or compensation structures

This research revealed three “hidden gem” banks among the dross. They are (in alphabetical order):

BB&T Corporation (NYSE:BBT) – With $152 billion in assets, and a $3.1 billion TARP investment, this North Carolina-based regional bank has its primary operations in the Mid-Atlantic region. A recent share price of $23.42 meant that BB&T was trading at about 94% of book value. BB&T was profitable in each quarter of 2008 and in the first quarter of 2009, making $1.5 billion for all of last year and $271 million in first quarter of 2009. It maintained its dividend of 47 cents a share for first quarter of 2009, the only bank to maintain its full payout. The question, of course, it whether management will be tempted to follow fashion and cut the dividend next quarter; otherwise, it looks very solid.

State Street Corporation (NYSE:STT) – With $174 billion in assets, and a $2 billion TARP investment, this Boston-based bank is focused chiefly on serving institutional investors worldwide. Its recent share price of $37 meant that State Street was trading at 146% of book value. Its 2008 earnings per share (EPS) of $3.89 represented a year-over-year increase of 13%. First quarter net income down 16%, but State Street still earned $445 million. It pays a quarterly dividend of 24 cents per share. With a global business, conservative leverage and Boston management, State Street is a great risk. But it’s somewhat of an unexciting investment currently as securities issues and trading volume have fallen.

Bank of New York Mellon Corporation (NYSE:BK) – With $237 billion in assets and a $3 billion TARP investment, this New York-based bank has its primary operations in New York and Pennsylvania and has an institutional/corporate orientation. With its recent share price of $26.88, it is trading at 122% of book value. It reported 2008 net income of $1.39 billion, and first quarter profit of $322 million, after which the bank reduced its quarterly dividend from 24 cents to 9 cents a share. Looks solid to me.

U.S. Bancorp (NYSE:USB) has $266 billion in assets, and a $6.6 billion TARP investment and is a regional bank headquartered in Minneapolis that operates primarily in the Midwest and Northwest. A recent share price $18.97 means it is trading at 176% of book value. It reported a 2008 profit of $2.94 billion, and a first quarter profit of $419 million. U.S. Bancorp cut its quarterly dividend from 42.5 cents per common share to 5 cents a share, as it wants to pay back its TARP investment. This bank is in good shape, but its capital base would become too thin if it repaid TARP; I’m not sure I want to pay 11-12 times earnings for this stock when the dividend’s so low and the uncertainties are so high, as there’s still some chance of dilution, should it raise capital.

The U.S. Federal Reserve’s actions in cutting short-term interest rates to almost zero – together with a gentle rise in U.S. Treasury bond yields since the start of the year – have given us a steeply sloping yield curve, where long-term rates are about 3% above short-term rates.

What’s more, lending rates to corporate and personal borrowers are way up, far more than Treasury bond rates. That means one thing: In their new lending – particularly to small businesses – banks are making money like gangbusters.

At least, some of the banks are…

Let me explain.

The “steeply sloping yield curve” is bond-market jargon for a situation where long-term bond rates are far above short-term money market rates. In this case, the Fed has forced money market rates down to nearly zero, but has had much less effect on long-term bond rates, which have shown a tendency to rise, both because of the escalating budget deficit and because of the possibility of recurrent inflation arising from the Fed’s rapid expansion of the money supply.

Since banks generally borrow short-term money – in the form of demand deposits and short-term time deposits – and generally lend medium-term and long-term money, in the form of industrial loans and leases, automobile loans and home mortgages, a steeply sloping yield curve makes the banking business exceptionally profitable. Borrowing short-term at 1% and lending on a prime home mortgage at 5.5% or 6%, often with a “government” guarantee from Fannie Mae (FNM) or Freddie Mac (FRE), is good business however you look at it, for as long as the steep yield curve lasts.

In addition, the premium that industrial borrowers pay above U.S. Treasury bond rates has sharply widened, so banks can make much more money on their commercial loan and lease business.

That doesn’t mean we should all rush out and buy shares in Citigroup Inc. (C). For one thing, Citigroup is involved in all sorts of investment banking, and in a variety of trading businesses, most of which are either down sharply due to the recession or that have disappeared altogether. For another, we still don’t know how large and how toxic are the assets on Citigroup’s balance sheet.

Whereas regional banks have been coping quite well with their impaired-value assets, Citigroup has been forced to get a $300 billion guarantee on its assets from the Fed, and nobody knows if even that will be enough. The bank is now controlled by the government, and may be nationalized entirely.

Even at their nadir of 97 cents last week, Citi’s shares are nothing less than a lottery ticket. That ticket would have paid off if you’d bought last week, with a gain of 130% in a week, but neither I nor anyone else can give you accurate odds on whether it will pay off in the weeks to come.

Of the big banks with assets of more than $1 trillion, only one is attractive. Apart from Citigroup, Bank of America Corp. (BAC) made two foolish acquisitions in 2008, and is now struggling with the dodgy housing assets of Countrywide Financial Corp. and the huge investment banking problems of Merrill Lynch & Co. Inc. (which is likely to make much less money in a deep recession than it could in a boom).

J.P. Morgan Chase & Co. (JPM), similarly, has huge investment banking businesses and large trading businesses; its businesses in consumer and small business lending are relatively modest. And the other two behemoths that now have conventional banking licenses, Morgan Stanley (MS) and Goldman Sachs Group Inc. (GS), still are primarily investment banks, with almost no consumer and small business banking operations.

Of the trillion-dollar guys, that leaves Wells Fargo & Co. (WFC). Wells Fargo needed money in 2008 – it got a $25 billion capital infusion from the Troubled Assets Relief Program (TARP) – because it bought the retail bank Wachovia Corp., which was struggling with its own problems.

Wachovia was in difficulty because of its foolish top-of-the-market purchase of housing lender Golden West Financial in 2006. However, the combined Wells Fargo/Wachovia unit remains primarily a consumer- and small-business-banking operation, with a huge nationwide branch network and a relatively small investment-banking business. What’s more, there are clearly costs that can come out of the merged group because of their overlap.

Wells Fargo Chairman Richard M. Kovacevich has made snotty comments about the “asinine” federal bank stress test, wants to repay the TARP money, and recently cut WFC’s dividend by 85% to conserve capital. However, if the combined bank is as profitable as it should be, Kovacevich may well be able to repay TARP and restore the bank’s dividend payout surprisingly quickly.

The current dividend yield at 1.5% is nothing to write home about, but at around 85% of tangible net asset value, Wells Fargo is a “Buy” – and don’t forget, if and when Kovacevich restores the dividend, that yield will jump to 9.8%.

Once you leave the trillion-dollar guys, there’s a big gap – the next-largest banks are The PNC Financial Services Group Inc. (PNC) and U.S. Bancorp (USB) at around $290 billion. These regional banks are generally more attractive currently – provided that their bad assets are under control and that they operate in an economically attractive part of the country.

These banks have little or no involvement in investment banking, and those banks that concentrate on mid-market corporate customers and high-quality consumers should have huge current earning capacity – a multiple of that before the meltdown. That will enable them to take care of further nasty surprises in their asset book and leave a lot over for investors.

Of the Top 12 U.S. banks I surveyed in a special Money Morning story a few weeks ago [actually 13, if you include a separate report I did on Fifth Third Bancorp (FITB)], PNC was among the riskier institutions because of its acquisition of National City Bank – an operation as large as itself and based primarily in troubled Ohio and Michigan.

Bank of New York Mellon Corp. (BK) and State Street Corp. (STT) are both oriented toward investment institutions and larger corporate and commercial clients, with perhaps less upside potential from the current steep yield curve. Other banks appear to be having more difficulty with their loan portfolios, or – as is the case with Capital One Financial Corp. (COF) – are have oriented themselves toward high-risk credit card lending, which may still show further problems.

Thus, my favorite profit play to emanate from this banking-ranking exercise is the Minneapolis-based U.S. Bancorp, which operates in the upper Midwest and Northwest from its home market of Minneapolis all the way through to Seattle, an area with neither huge industrial problems, nor the remnants of a huge housing bubble. USB has also cut its dividend and wants to repay its $6.6 billion TARP funding: U.S. Bancorp Chief Executive Officer Richard K. Davis has been as rude as Wells Fargo’s Kovacevich on that topic, calling it a “giant bait and switch.”

U.S. Bancorp is currently selling at 130% of tangible net asset value, with a current dividend yield of only 1.5%, but a potential yield of 14% if and when Davis manages to repay TARP and restore the dividend.

Remember, too: Banks traditionally sold at 250% to 300% of net asset value. Once their dividends are restored, Wells Fargo and U.S. Bancorp should have every chance of reaching that level again – they will deserve to on the basis of the dividend yield and earnings power alone.

It may take two years – or even three – but a capital gain of 100% or so, on top of a juicy dividend yield, will make it well worth the wait.

Source: As Resurgent U.S. Banks Shift Into Profit Mode, Hitch a Ride With These Two for Gangbuster Returns

Martin Hutchinson reveals what “Hidden Gems” have conquered the 2008 banking crisis and the possible investment bargains they will bring this year.

U.S. Treasury Secretary Timothy Geithner last week proposed a series of programs, totaling $1.5 trillion, to bail out the U.S. banking system. Of course, Geithner hasn’t told us precisely how he plans to spend the money, or identified which banks require such an enormous outlay.

So I thought it was worth looking at the United States’ 12 largest banks to see where the problems might be and identify which banks might need big infusions of government cash. I perused the financial statements of all 12 banks, and also looked at their market valuations.

Unlike when the Troubled Assets Relief Program (TARP) was proposed in September – when the projections for potential losses were largely financial conjecture – we now have important concrete data on the banking system’s troubles; namely, each of the bank’s annual financial reports for 2008.

Those figures were calculated with the most current knowledge of the economy’s housing crisis and other related financial disasters, and with the potential for losses on “bad assets” fully taken into account and examined in detail by auditors.  Further economic bad news might weaken new batches of assets, but at least the biggest problems should by now be fully apparent.

There is a lot of information – both about potential bailout needs and possible investment bargains – which we can gain from the banks’ annual earnings figures. For instance:

• Banks that made profits in the very difficult fourth quarter of 2008 are probably in good shape, especially if their loan-loss provisions exceeded their charge-offs (the amount actually lost).
• Even banks that lost money in the fourth quarter – an exceptionally harsh three months – have no immediate need for funding, provided they made money the rest of 2008 and seem likely to resume making money going forward.
• In this context, management’s dividend policy is a good indicator: If the dividend is maintained, rather than being sharply cut or suspended, management is probably genuinely confident about the bank’s position and outlook.
• Another good indicator of a bank’s health – at least of the market’s perception – is the ratio of share price to book value. If that’s below 25% or so the market lacks confidence in the bank’s ability to solve its problems.

Using these indicators, we can assess the viability of the leading U.S. banks. Each bank can then be classified with one of our four “official” Money Morning designations. These designations, or labels, consist of:

• Zombies: Institutions kept alive only by TARP funding. These subtract value from the economy and should be put out of their misery through controlled liquidation, with the healthy parts being salvaged.

• Walking Wounded: These banks may need a little bit more help, but are currently operating adequately on their own. One caveat: An intensification of economic downturn could push some of them into “zombie” status – or even bankruptcy.

• Risky but Proud: These banks have relatively high risks, because of acquisitions or their business models, but are operating at full blast and can hold their heads high for their success in dealing with 2008’s enormous difficulties.

• Hidden gems: These banks have conquered 2008’s difficulties, taken care of their bad debt problems, and still managed to make a substantial profit. Short of a repeat of what U.S. banks had to deal with from 1929-1933, as part of the Great Depression, these financial institutions should continue to operate in the black.

The Envelopes Please …

We listed the 12 largest U.S. banks by assets, as of Dec. 31, ignoring foreign-owned banks, Goldman Sachs Group Inc. (GS) and Morgan Stanley (MS) (those last two are onetime investment banks that are technically now commercial banks, but still possess a very different business mix. We give you a rundown on the financial stability of each one, and give each institution with the single-most-appropriate of our four official Money Morning designations. The Top 12 banks, biggest first, are as follows:

1. Bank of America Corp. (BAC) – Zombie: BofA has about $2.8 trillion in assets including Merrill Lynch, which was acquired after the end of last year, and Countrywide Financial Corp., formerly the nation’s No. 1 housing finance bank. It received $45 billion from TARP, plus $118 billion in guarantees against Merrill Lynch’s assets. At Friday’s closing share price of $5.17, the stock was trading at 21% of book value (it closed at $4.90 yesterday). BofA posted a fourth-quarter net loss of $1.55 billion, plus a Merrill Lynch net loss of $15.3 billion, which forced BofA to cut its quarterly dividend to a nominal one cent per share. Judging by other banks’ results, if Bank of America had made no acquisitions in 2008, it would be in solid shape. With the acquisitions, however, it’s a basket case – and may well need even more federal funding.

2. JPMorgan Chase & Co. (JPM) – Risky but Proud: JPMorgan has $2.175 trillion in assets, and received a $25 billion TARP investment. It’s a major international bank with a large investment banking operation. It bought The Bear Stearns Cos. Inc., investment bank in March and the Washington Mutual Inc. thrift in September, both with Federal government help.

JPMorgan booked $702 million in net income in the fourth quarter and $5.6 billion in net income for all of 2008. The company also had a fourth quarter loan-loss provision of $8.5 billion and charge-offs of $4.5 billion. But there were also $2.9 billion worth of securities markdowns in the investment banking operation. Again, this bank is high-risk from an investment standpoint because of its acquisitions, but it appears to be in excellent shape with no immediate need for extra funding. Its Friday closing share price of $24.69 equates to 72% of net asset value, though it closed yesterday at $21.65, down 12.3%. It pays a quarterly dividend of 38 cents per share.

3. Inc. (C) – Zombie: Citi remains the nations’ third-largest bank, with $1.9 trillion in assets. It received a $45 billion TARP investment, plus guarantees on $301 billion of assets. At Friday’s close of $3.49, it was trading at 25% of book value. Citi lost $8.3 billion in the fourth quarter of 2008 and $18.7 billion for the whole year. It was finally forced to sell control over its Smith Barney brokerage operation to Morgan Stanley in January, and has reduced its dividend to a nominal penny a share. Citi has been a serial flirter with bankruptcy over the past 30 years and remains a basket case. There are a few good assets buried within the rubble – chiefly because the company is so large and diverse.

4. Wells Fargo & Co. (WFC) – Risky but Proud: Wells Fargo has $1.3 trillion in assets, and garnered a $25 billion TARP investment. Originally a small bank based in San Francisco, Wells Fargo officially entered the heavyweight class with its acquisition of Wachovia Corp., late last year. Its Friday closing price of $15.76 equated to 104% of its book value, though it closed yesterday at $13.69. Wells Fargo’s stock pays a quarterly dividend of 34 cents. The company posted a fourth-quarter net loss of $2.55 billion, not including an $11 billion net loss at Wachovia. Wells Fargo’s full-year earnings totaled $2.84 billion. It had a fourth-quarter loan-loss provision of $8.4 billion, compared with actual charge-offs of $2.8 billion. Wachovia’s 2006 acquisition of the California mortgage bank Golden West Financial puts Wells Fargo at risk, but the company’s operations appear solid and it has no immediate need for extra funding.

5. PNC Financial Services (PNC) – Risky but Proud: The Pittsburgh-based PNC has $291 billion in assets, after buying the slightly larger National City Corp in October. It also received a $7.6 billion TARP investment. At Friday’s closing price of  $28.20, PNC’s shares were trading at 79% of book value. The company pays a quarterly dividend of 66 cents per common share, and posted a fourth-quarter net loss of $248 million (excluding costs associated with its acquisition of National City, the company had a fourth-quarter profit of $132 million}. PNC had provision for credit losses of $990 million, compared with net charge-offs of $207 million. This is one of the riskier banks because of the difficulties in integrating National City and possible problems in National City’s loan portfolio. But it appears to have no immediate need for funding and is currently profitable, and its stock is selling close to book value and paying a solid dividend. One final point: PNC’s shares fell only 6.1% yesterday, a day when the shares of most major banks fell by more than twice than amount, perhaps hinting that investors perceive less risk in PNC’s shares.

6. U.S. Bancorp (USB) – Hidden Gem: U.S. Bancorp has $266 billion in assets, and received $6.6 billion in TARP funding. This regional banking firm is based in Minneapolis, and the company operates primarily in the upper Midwest and Northwest. With a closing price of $12.40 on Friday, USB shares were trading at 131% of book value (the shares closed yesterday at $10.73, down 13.47%). The company also pays a quarterly dividend of 42.5 cents per common share. U.S. Bancorp posted a fourth-quarter profit of $260 million, and a profit of $2.94 billion for all of 2008. It also had a credit-loss provision $1.3 billion in the fourth quarter, compared with actual charge-offs of $627 million. U.S. Bancorp is in good shape, with no apparent need for extra money.

7. The Bank of New York Mellon Corp. (BK) – Hidden Gem: New York Mellon has $237 billion in assets, mostly through its operations in New York and Pennsylvania. It received $3 billion in TARP funding. With closing price Friday at $25.26, Bank of New York Mellon was trading at 125% of its book value (the shares closed yesterday at $23.13, down 8.4%). The bank posted a fourth-quarter profit of $28 million, and net income of $1.39 billion for all of 2008. The fourth quarter was tough as for everybody, but Bank of New York Mellon appears to have no near-term need for funding.

8. SunTrust Banks Inc. (STI) – Walking Wounded: Sun Trust has $189 billion in assets, and received $4.9 billion in TARP financing. Based in Atlanta, the bank has operations in the Mid-Atlantic and the Southeast. Its Friday closing price of $8.72 meant that SunTrust shares were trading at only 19% of their book value. The company posted a fourth-quarter loss of $379 million, but a profit of $747 million for all of 2008. It also had loan-loss provisions $962 million in the fourth quarter, compared with $552 million in charge-offs. SunTrust has reduced its quarterly dividend sharply to 10 cents per share, but it appears to be in no immediate trouble. However, if the economy deteriorates, the bank’s exposure to the Florida housing market could be an Achilles heel. Investors are clearly concerned: SunTrust shares took an 18% beating yesterday, and are down 88% in the past year, The Atlanta Journal-Constitution reported yesterday.

9. State Street Corp. (STT) – Hidden Gem: State Street had $174 billion in assets, and received $2 billion in TARP funding. It’s a Boston-based bank, but serves institutional investors throughout the world. At Friday’s closing price of $27, the shares were trading at 111% of their book value. State Street posted fourth-quarter earnings of $65 million, and 2008 earnings per share of $3.89, up 13% from the year before. With a global business, conservative leverage and Boston management, State Street could gather strength when the financial crisis finally ends.

10. Capital One Financial Corp. (COF) – Walking Wounded: Capital One has $161 billion in assets, and received a $3.6 billion TARP investment. It’s primarily a credit card company, headquartered in McLean VA. At Friday’s close of  $12.11, it is trading at just 20% of book value.  Capital One lost $1.4 billion in the fourth quarter of 2008, and was just below break-even for the full year, but made $895 million from continuing operations. Its stock pays a quarterly dividend of 37.5 cents per share. Capital One is in dangerous waters and could soon succumb to zombification if credit-card problems really escalate.

11. BB&T Corp. (BBT) – Hidden Gem: BB&T has $152 billion in assets, and accepted a $3.1 billion TARP investment. It’s a regional bank, headquartered in Winston-Salem NC, with its primary operations in the Mid-Atlantic region. At Friday’s closing price of $15.33 a share, the stock was trading at about 58% of its book value. The company posted net earnings of $284 million in the fourth quarter, after loan write-offs of $528 million. It posted a profit of $1.5 billion for all of 2008, and pays a quarterly dividend of 47 cents a share. I’m sure it would gladly take more taxpayer money, but it certainly doesn’t appear to need it.

12. Regions Financial Corp. (RF) – Walking Wounded: Regions has $146 billion in assets, and received $3.5 billion in TARP financing. It’s a regional bank, headquartered in Birmingham, AL, with operations primarily in the Southeast. At Friday’s closing price of $3.38 a share, Regions’ stock was trading at about 18% of book value, and the bank has suspended its dividend. The company lost $5.6 billion in 2008, and its tangible net worth is only $10.5 billion. However, on an operating basis, it made a profit of about $300 million. Regions had a fourth-quarter loan-loss provision of $1.15 billion, and charge-offs of $796 million. I’m classifying it as “walking wounded,” but think it’s more likely to revive itself than to accept a toe-tag. In fact, it’s likely to need only a modest amount of additional funding to see its health improve.

And the Winners Are …

After examining the finances of these 12 major banks, I discovered that some additional analysis was needed – some in the investment arena, and the rest in the area of public policy. Once that was completed, I was able to reach some concrete conclusions about the new banking bill.

On the public policy side, it’s very difficult to justify $1.5 trillion of public money being used to buy assets from these guys. Of 12 banks I examined:

• Seven appear to be in solid shape, and are actually paying substantial dividends.
• Three appear weak, with possible needs for some additional help.
• And only two are actual basket cases.

Apart from the two dogs, all these banks have shown themselves perfectly capable of handling the difficult parts of their asset portfolios. That means that setting up a separate state bureaucracy to manage them, instead. is just asking for a high-cost taxpayer rip-off.

Unless it’s proposed to devote $1.5 trillion of taxpayer money to the apparently hopeless task of sorting out Bank of America and Citigroup, the true need is much smaller, with the remaining $315 billion from the original TARP program probably being more than ample for the other U.S. banks.

The most likely near-term need would appear to be capital injections into one or two of the weaker members of this Group of 12. As for the true bow-wows, the best solution from a public-policy and taxpayer-protection viewpoint would be to allow Bank of America and Citigroup to slide into Chapter 11 re-organization, with the ultimate objective being a breakup and sell-off of the worthwhile pieces, while holding back the relatively modest amounts of government financing or Federal Reserve money that might be needed to staunch any blood-letting that their bankruptcy caused.

As investments, the “Hidden Gems” for the most part represent very interesting potential bargains.

USB looks solid and profitable, with a dividend yield of an extraordinary 15.84% as of yesterday’s close.

BNY Mellon does not appear particularly risky, but yields only 4%; I actually prefer the “Risky-but-Proud” PNC, which has considerable upside if it can manage to digest its National City acquisition, avoid big credit losses and achieve cost savings.

State Street has a dividend yield of only 4.14%, but looks rock solid and its shares are trading at only about 5.9 times earnings.

BBT also looks solid, and has a massive dividend yield of 13.18%.

Source: The Top 12 U.S. Banks: From Zombies to Hidden Gems

“Right now, given the concerns that we have over the size of this package and all of the spending in this package, we don’t think it’s going to work,” Rep. Boehner said yesterday (Sunday) on NBC-TV’s “Meet the Press.” “And so if it’s the plan that I see today, put me down in the ‘No’ column.”

The plan – detailed in a Money Morning report last week – could potentially pass the Democrat-dominated House without Republican support, The New York Times reported. But the stimulus plan will face major opposition when it comes before the U.S. Senate, U.S. Sen. John McCain, R-Ariz., told “Fox News Sunday.”

If at least two Republicans don’t approve the bill, the proposal won’t be able to achieve the majority vote of 60 it needs to be filibuster-proof. McCain said he also plans to vote “No” unless the stimulus bill is changed.

“We need to make tax cuts permanent, and we need to make a commitment that there’ll be no new taxes,” McCain said. “We need to cut payroll taxes. We need to cut business taxes.”

Added McCain: “We need to have a commitment that after a couple of quarters of [gross domestic product] growth that we will embark on a path to reduce spending to get our budget in balance.”

McCain lost the November presidential election to Obama.

That’s not all that’s taking place in what figures to be a busy stretch this week.

The economic calendar will heat up this week as economists get their initial look at U.S. gross domestic product (GDP) data for the 2008 fourth quarter. Needless to say, the results are not expected to be pretty, with analysts predicting a 5% contraction during that final three months of the year.

The report is due out Friday.

The United States has already been in a recession for a year, the National Bureau of Economic Research (NBER) reported in early December. This downturn – and the bigger-than-usual job cuts that have resulted – could generate a much-bigger financial crisis “aftershock” than many experts realize. Only two of the last 10 recessions to take place since the Great Depression have lasted a full year. But this one could last well into 2010, many economists fear.

The U.S. economy shrank 0.5% in the third quarter, marking the slowing pace since 2001 and continuing a still deepening recession that has wrung the markets since last year. GDP advanced 0.9% in the first quarter of last year and 2.8% in the second quarter, Bloomberg News reported.
Dana Saporta, an economist at Dresdner Kleinwort Ltd. in New York, told Bloomberg projects a 5.4% overall contraction in the fourth quarter. Analysts expect the malaise to carry over well into this year.

The stimulus packages – money spent by the newly departed Bush administration, as well as one planned by the newly installed President Barack Obama – will have a lot to say about how long the U.S. economy stays down. As the Republican opposition comments demonstrate, with Congress (the Democratic members, at least) promising a stimulus package by President’s Day (February 16th), Obama will have his hands full initiating some “give and take” from the dissenters of the current plan.

On Wednesday, U.S. Federal Reserve Chairman Ben S. Bernanke also leads the first Fed policy meeting of the Obama administration though he and his policymaking cohorts have no more wiggle room when it comes to cuts in the benchmark Federal Fed rate.

But the Fed statement should provide insight into the additional measures the central bank has in its arsenal to help jumpstart the economy.

Earnings season also moves forward with energy companies prepared to show the ill-effects of the drop in oil prices.  Exxon-Mobil Corp. (XOM) and Chevron Corp. (CVX) announce late in the week, as does consumer products giant Procter & Gamble Co. (PG).  Amazon.com Inc. (AMZN) also reports quarterly earnings during the week and analysts are speculating whether investors will cheer its results a la Google Inc. (GOOG) or frown along the lines of eBay Inc. (EBAY).

Market Matters

Last Tuesday, Barack Obama took the oath of office (for the first time) and became the 44th president of the United States.  In his inaugural address, President Obama called for “action, bold and swift – not only to create new jobs, but to lay a new foundation for growth.” He then acted “boldly and swiftly” by freezing the pay of high-ranking members of his administration.  One of those potential members, U.S. Treasury Secretary-nominee Tim Geithner, faced the wrath of Congress for his role in the mis-handling of the banking bailout plan and for his failure to pay a mere $34,000 in taxes.  Since the treasury secretary oversees the Internal Revenue Service, certain “rule sticklers” in Congress frowned upon his “careless mistakes.”  Still, he was approved by the Senate Finance Committee and is expected to be confirmed – just in time to oversee the distribution of that next round of Troubled Assets Relief Program (TARP) money.

While Obama begins a new job and tries to “faithfully execute the office” (rather “execute the office faithfully”), a few financial execs are headed for the unemployment line.  John Thain, formerly of Merrill Lynch & Co. Inc. fame/infamy, stepped down or was forced out from his role at Bank of America Corp. (BAC) after failing to disclose dramatic losses prior to the shareholder approved acquisition.

In an effort to stop the negativity – and no doubt to try and protect his own job – BofA Chief Executive Officer Kenneth D. Lewis and several cronies bought more than 500,000 company shares, a move that earned a collective yawn from investors.

Citigroup Inc. (C) will be replacing Chairman Win Bischoff with ex-Time Warner Inc. (TWX) CEO Richard Parsons, and also announced its intent to sell Japan’s Nikko Cordial Securities, a move that confirms that brokerage will no longer be considered a core business.  In other financial news, State Street Corp. (STT) reported a far-worse-than-expected quarter from its asset management business; U.S. Bancorp (USB) announced that profits fell to the lowest level since 2001; Capital One Financial Corp. (COF) posted a huge loss in the quarter and predicted that credit card defaults will only grow in 2009.

Across the pond, Royal Bank of Scotland Group PLC (ADR: RBS) forecast an annual loss above $40 billion which would be the largest ever reported in the United Kingdom.  On the heels of that news, the British government introduced new measures to its bailout plan, including a form of insurance to limit future loan losses.  Investors were hoping that earnings from non-financials would fare better, but Microsoft Corp. (MSFT), eBay, General Electric Co. (GE), Advanced Micro Devices Inc. (AMD) and Xerox Corp. (XRX), among others, disappointed with weak results as well (though Google and Apple offered some bright spots).  Time Warner, Intel Corp. (INTC), and Clear Channel (among others) announced layoffs, proving that most sectors of the economy are hurting.  Non-government arranged deals still exist as Pfizer Inc. (PFE) attempts to acquire pharmaceutical rival Wyeth (WYE) and Mexican billionaire Carlos Slim. Carlos Slim plans to invest $250 million into The New York Times Co. (NYT), The New York Times reported.

Economically Speaking

A rather slow week on the economic calendar last week allowed investors time to focus on the earnings data.  Housing starts fell for the sixth straight month and building permits, a predictor of future activity, dropped to the lowest level ever reported.

The never-ending layoff announcements continued to hinder the labor picture as jobless claims surged far more than expected.  In China, GDP rose by 6.8% in the fourth quarter, a number that would have prompted parades in this country. In China, however, those numbers confirm dramatic slowdowns in the world’s third-largest economy.

The “weak” report means that growth for all of 2008 came in as 9%, the first year since 2002 that China’s growth rate fell below double-digits.

Weekly Economic Calendar

Source: Financial Crisis Challenges Escalate as Republicans Announce Plans to Oppose $825 Billion Obama Stimulus

This from Investment U:

I’ll be the first to confess, I flubbed the extent of the downturn in the financial space. Last April, I recommended “backing up the truck” and playing the rebound via the Financial Select Sector SPDR ETF (AMEX: XLF). Instead of a short-term opportunity, it’s turned into a really long-term rebound play.

But as I told members at our Central American meeting in Nicaragua last week, I’m human. I make mistakes. Both in life and investing. Thankfully, I’m not as bad as Wall Street analysts…

Forget Your Broker, Wall Street Analysts are a Bigger Threat

Most people will tell you a bad broker, motivated to increase his net worth by leeching fees off your net worth, is your biggest enemy. Not so. A blind faith in Wall Street analysts poses a bigger threat.

Forget being wrong some of the time. They’re wrong most of the time. Or as a recent MarketWatch article tells it, “If there’s one group of Wall Street denizens that have performed as poorly as bankers in the credit crisis, it’s the equity analysts who cover Corporate America.”

For instance, well into the credit crunch, they predicted earnings growth of 11.5% for the fourth quarter of 2007. Low and behold, earnings actually plunged 25%, based on Thomson Reuters data. They were off a whopping 36.5%! No rational explanation could explain, let alone justify, such a big miss.

Here’s the most compelling observation, though. According to Ashwani Kaul, the numbers cruncher at Thomson Reuters, the “figures show that analysts tend[ed] to err on the side of the positive when predicting earnings growth.”

But that was then. After being so wrong, for so long, I’m convinced most analysts fear for their jobs… and the pendulum’s swung back the other way. They’re being way too pessimistic now.

Case in point. Analysts’ estimates for the S&P 500 companies rest at their lowest levels for the last four years. In the last month alone, they’ve piled drive expectations into the ground, lowering EPS forecasts for 982 companies.

Companies themselves have even jumped on the pessimism bandwagon. In the third quarter, only 3% raised guidance. While the majority – you guessed it – lowered expectations.

Bottom line, the negative side of the market is getting overcrowded. And for once, I think analysts actually got ahead of the downward spiral.

That’s not so say we won’t have any more repeat performances. But we will certainly get pockets of outperformance. Companies beating expectations, with share prices eventually rebounding to reflect the good news.

Here’s how to play it…

Stock Profits From the Point of Maximum Pessimism

The late Sir John Templeton believed, “The time of maximum pessimism is the best time to buy.” (I agree.) And he did just that.

But he didn’t load up on the market indiscriminately. Instead, he cherry-picked companies trading at cheap valuations, with solid businesses and above average growth prospects.

He was talking about companies like Minnesota-based Fastenal (Nasdaq:FAST). It’s a supplier of nuts, bolts, parts and tools to manufacturers and commercial contractors.

I’ll concede that such a business is unglamorous and mind-numbingly boring. But the fact is, the company’s nearly 700,000 products are vital. They are used to operate and keep up large buildings, campuses and industrial plants, as well as bolt together furniture, appliances and trucks.

Recession or not, demand remains stable for Fastenal’s products. Otherwise, simply put, stuff stops working.

I originally alerted Oxford Club members to this stock in November. It reported earnings yesterday. And guess what? It beat expectations. The company posted a 10% increase in profits and enviable same-store sales growth of 8%.

Moving forward it will continue to grow thanks to four key competitive advantages – unparalleled convenience, market penetration, cost leadership and customization.

Strong insider ownership, double-digit growth opportunities and the most attractive valuation in over a decade (approximately 40% below its historic price-to-earnings ratio) only make the stock more compelling. I still rate it a “Buy.”

Whether you trust my analysis on Fastenal or not, just remember this: Analysts’ earnings estimates resemble a waterfall, cascading lower and lower with each passing week. They’re bound to overshoot the mark.

In many cases, like Fastenal’s, they already did. And that means plenty of bargain stocks exist to profit from the imminent pivot from pessimism to optimism.

Source: Stock Profits from Today’s “Maximum Pessimism”