Getting Back to Banks

 | Dec 06, 2011 | 11:10 AM EST
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Let's look at some additional sources of income from the stock market. The larger blue chips are a no-brainer for income portfolios, but not many of them fit into the classification of cheap stocks based on either assets or earnings right now.

We will have to save many of them for another day when the world is not pushing liquidity out the door like distillers were rolling out whiskey 78 years ago today (Prohibition ended on this day, yet another reason to celebrate December).

As global governments are talking about another round of interest-rate cuts, finding income in traditional havens is impossible and savers and retirees are forced to adjust their mindsets and turn to the stock market to meet cash-flow needs.

Looking at screens of dividend-paying stocks right now, I see that there are a lot of banks on the list. This is to be expected as bank prices have been getting hammered for three years now. Many of them are not stocks that conservative investors should have in their portfolio. Most of the big banks still have huge balance-sheet and political risk and are just not appropriate for most investors.

But many smaller banks and thrifts seem to have the end of the world priced into the stocks, yet are seeing improved credit quality and pay decent dividends and should be considered for an income portfolio. In addition to good dividend yields, many of them have extraordinary price appreciation potential and that can help preserve purchasing power over longer periods of time. If you are a conservative investor looking for income, do not load the boat on any one stocks, but spread your investment over several banks and you should be rewarded over time.

Among those I think income investors can own at these levels is one of my favorites. I am underwater on my initial and follow-up purchases of Hudson City Bancorp (HCBK), but I really like the long-term potential of the New York-based bank. Low interest-rate margins pressured earnings and probably will for most of 2012. They have already reorganized the balance sheet once and may have to again if low rates continue to pressure their portfolio and profits. But all of this seems to be priced into the stock right now with the shares at 60% of tangible book value. At today's price, the shares yield 5.5%, so you are getting paid to wait for the mortgage lending markets and net interest margins to improve.

Weak mortgage production is also going to keep the bottom line form growing at New York Community Bank (NYB) for a while. In fact, we could see decreases in both as mortgage demand could remain weak throughout 2012. But credit quality is high and getting better every quarter. The company is earning the dividend and the payout is an attractive 8.4%. The company has strong niche lending in the apartment building markets in New York City, which has been one of the best performing real estate markets in the nation. When the economy and real estate markets finally improve the bank should do very well and reward investors with a higher stock price in addition to the attractive yield.

When the banking crisis began to play out, I predicted that First Niagara Financial (FNG) would become a serial acquirer of other banks to take advantage of their strong balance sheet and market presence. That prediction has proved true and the bank is making another acquisition acquiring a branch network in upstate New York and Connecticut for HSBC. It has more than doubled its asset base during the past few years and that is driving solid revenue and earnings gains as well. They are one of a very few banks that is actually seeing an increased non-interest income as banking services, wealth management and insurance commissions are all rising for First Niagara. The shares yield over 7% at the current price, so you are getting paid while they grow. As the bank continues to grow by acquisition they will be well positioned for explosive growth when market conditions finally improve.

A commitment of 10-20% of your equity income portfolio should be directed at banks, but I would resist the urge to overload an income portfolio in any one group or sector of the market.

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