The Old World Bank That Pays a Fat Dividend

As the steward of the Personal Finance Income portfolio, I’ve been reconsidering what financial companies and banks deserve to be called income investments, especially given the revelations of fraud and scandal at Wells Fargo and Deutsche Bank.

And the more I look, the more I like firms that have been pursuing more traditional banking businesses: those that specialize in one area, such as savings and loans, wealth management or merger advisory.

In the latest issue of Personal Finance I recommend an old-style financial firm that we’re adding to the income portfolio. Talk about old school. It’s been operating for 168 years with essentially the same business model, and regularly beating its peers.

The firm also completely avoided the 2008 financial meltdown and pays a better than 7% dividend.

This company is a great example of how there has been a renaissance of the old banking models as investors shy away from the risk many banks are showing.

Big banks return on equity, a measure of profits returned to investors, for the S&P 500 financials has not been much better than 10% since the 2008 crisis, which is paltry. Many of these banks have become too large, and are in too many disparate businesses with varying degrees of risk. This makes judging their risk almost impossible, not to mention that we can’t see ethical or illegal activities.

Banks such as Citibank in the late 1990s famously transformed from plain vanilla banks to ones that were involved in trading securities, investment advisory, insurance and whole host of other businesses that historically commercial banks had been barred from.

But today, the momentum is going the other way, where even the “sexy” investment banks are pursuing the traditional bank model. Goldman Sachs, known as a big risk taker, recently announced plans to take deposits and has created a new retail consumer lending arm.  

However, we advise conservative investors should focus on firms that have “stuck to their knitting” and have a track record of excellence in the traditional banking business, whether it is in taking deposits or in advising clients on transactions.  

Stick to Their Knitting

Of course, there’s not necessarily anything wrong with banks that are big, it’s big banks with too many disparate businesses that can have unknown risks.

A major global bank that’s a plain vanilla commercial institution can have advantages over a regional bank. This is true, for example, when the global bank balances losses from one global region where there’s an economic downturn with gains from a region that’s booming.

But there’s another fundamental reason to invest in banks that have tried to excel in one area, whether it be wealth management advice or saving and loans. These banks  can more effectively respond to the potential disruptive competition from financial technology companies. My colleague Ben Shepherd in a recent report, FinTech is Taking a Bite out of Banks, looks at these new upstarts.   

A well-run, highly-focused bank that continues to reinvest in its businesses with new technology will be able to innovate and stay ahead of the competition.

Again, I hope you’ll pick up the next edition of Personal Finance, where we are recommending some great opportunities in the financial sector for income investors.