Jan

27

Deposit at the Bank … Or OWN the Bank

January 27, 2006 |

I had some spare money that I was planing to place on a Certificate of Deposit. Ing Direct offers a very good rate (currently an relatively impressive 4.25% or 3.19% after a 25% tax bracket).

But then I considered the alternative, investing in a bank stock. What if I used the money to purchase bank stocks? What if I could get more money in dividends alone than with bank interests? And what if I had the chance of watching the bank stock appreciate and increase my principal (something unheard of in a Certificate of Deposit)? Granted, it would be a bit of risk, but maybe I could minimize it by selecting the right bank. I was going to spend time searching for the best rate on the best Certificate of Deposit, so I may as well search for the best bank to invest.

I did some quick comparisons between the Annual Percentage Yield the banks offered for a 5 year Certificate of Deposit and the dividend yields (dividends / price of stock) today for some of the banks I was considering. The results where comparable. Dividend yields where even more favorable when you considered that I pay 25% Federal Tax on Interest, but only 15% Federal Tax on dividends.

Bank Symbol 5 YR CD APY Dividend Yield
Bank of America BAC 3.75% (2.81%) 4.62% (3.92%)
US Bank USB 3.70% (2.78%) 3.68% (3.13%)
ING ING 4.25% (3.19%) 4.80% (4.08%)
Citibank C 4.10% (3.08%) 3.54% (3.01%)

Note: Amount inside parenthesis assumes 25% Federal Income Tax on Certificate of Deposit, and 15% Federal Income Tax on dividends.

But I was not going to invest only on yields and dividends alone. I must also make sure that the company is strong enough to conserve my capital, and even appreciate a little, so that my money grows even faster. That is when I started the following analysis:

I ran a stock screen looking for Quantitative (measurable) and Qualitative indicators. My initial screen looked for: Financial companies, with a market capitalization of more than 50 Billion US Dollars, a dividend Yield of more than 3.5% and a Price to Earnings (P/E) ratio of less than 15. This will come up with six banks: Bank of America,
HSBC, Banco Santander, ING Group, Barclays, and US Bank.

I love stock screens, since they take most of the hard work out of finding the stocks you want to invest on. You just choose some categories for what you think defines a good company, and then you let the computer do the work.
Since I do not have enough money to invest in all of them, I decided to filter this a bit more with some Qualitative data: Analyst Estimates. Specifically earnings growth of more than 10% for the next year. This reduced the list
to Bank of America, US Bank, and HSBC. I already had stocks from Citibank and US Bank (and the first one is kind of expensive lately compared to the others, and US Bank doesn’t enjoy as large market capitalization as Bank of America and HSBC — large market cap brings CD-like stability).
I chose Bank of America over HSBC because due to currency fluctuations, and business growth potential Analyst opinion for HSBC is very Bearish (Sell/2), while Bank of America is a 5 star portfolio member for Standard & Poor’s and an average Bullish perspective for Analysts (Buy/4).

Will I earn more by purchasing bank stocks than by saving my money on a Certificate of Deposit?

Only time will tell. But I believe that I have a good chance of doing better than a CD by investing in Bank of America (and the other banks on which I have a position).

Am I recommending you to avoid Certificates of Deposit?

No, they are very useful, ultra safe. It is just that in some situations you need safe, not ultra-safe. At the young stage of life where I am, I have time to ride the market, and let my investments grow over time. I will use Certificates of Deposit where appropriate.

How can you be sure you will not loose money?

I can not be sure that I will not loose money. I may.

Over time, with a diversified portfolio (more than one bank, and more than one industry), watching that it still complies with my original screen constraints, and paying attention to special events, I may do well.

We just endured a very nasty Recession, and market downturn. Many stocks lost a lot of value and have some people scared about the stock market. But these numbers may help you believe that over time, the stock market
tends to recover, and improve over those temporary failures. $10,000 USD invested 5 years ago (2000 at height of stock market) would be (not including dividends or its compounded effect):

  • Bank of America: $16,368
  • Citibank: $9,930
  • ING: $9,536
  • USB: $13,418
  • HSBC: $14,438

What do I mean with all of this?

It pays more to be an owner.


Comments

2 Comments so far

  1. My Dividend Stocks (2007 Q1) : Money And Investing on April 20, 2007 7:35 am

    [...] Most of my dividend portfolio is based on banks, as described on my article Deposit at the Bank or Own The Bank. My father-in-law says (I rephrase) that any business that gets money in one hand and gives money away with the other hand is surely keeping something for themselves: a spread, a commission, administrative charge, or simply some revenue. Most importantly, they make money out of nothing at all: none or almost no inventory. Banks, casinos, insurance companies, and money changers fall into this category. [...]

  2. The Adventures of Slightly Taller Than Average Man » Don’t put money in the bank, own the bank! on April 30, 2007 5:19 am

    [...] While I can’t recall the exact place I heard it (although I’ve found at least one site that looks at the concept), I thought it was at least quickly looking into it. I compared putting money in a ING Direct “Savings Maximiser” account to buying stocks in four major Australian Banks: Commonwealth, Westpac, Suncorp, and Bank of Queensland. [...]

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