Take a look at the following, which appears in the valuation section of a sell-side report out last week on Fifth Third Bancorp. (FITB) , initiating coverage with a "Market Perform" rating.
[W]e have opted for a price-to-tangible book value methodology, in light of the uncertainties surrounding earnings and true book value. FITB currently trades at 1.1x tangible book value (TBV), a 66% discount to its historical average of 3.1x, and below the current large-cap regional bank peer group average of 1.8x.
The rating on the stock, remember, is Market Perform. Now, I don't mean to sound like a crank, but a 66% discount strikes me as a big discount! And yet the analyst (whom I won't name because, as you'll see in a minute, I don't mean to single him out for abuse) doesn't seem think it's especially remarkable, or might be a reason to recommend the stock.
This is a great example of what, to me, is the sell-side's newest, most annoying habit: the refusal of too many analysts to see today's extreme valuations (at least in financial services) for what they are, and to provide some reasoned judgments about them.
You presumably know what I'm talking about. Historically, the S&P Financials have traded at between 2 and 3 times book value, broadly speaking; they currently trade at 1.1 times. Historically, the typical bank has traded at 10 to 12 times earnings. Now it trades at 4 to 6 times its normalized earnings power. The story's the same for consumer lenders, investment banks, you name it.
It's no secret why financials' valuations are so squashed, of course. The industry has just come through the most harrowing credit crunch in anyone's lifetime; even with the stocks' rally since March, valuations are still below their historical ranges.
You'll have your own view as to whether current valuations are reasonable. On the one hand, the recession seems to be ending, and industry earnings and valuations will shortly revert to their long-term means. Or maybe the economy's recent strength will only turn out to be temporary, in which case losses at many financial services companies could last for years.
Both views are respectable. What's not likely to happen, though, is that the industry will stay in its current state of stock-market purgatory forever. It seems nuts to assume that current valuation levels constitute some sort of "new normal." But that, as the Fifth Third report seems to show, is what too many sell-side analysts lately seem intent on doing. They take current valuations and implicitly seem to think they'll last more or less forever.
