Swiss bank and global financial services company Credit Suisse Group said on Tuesday that it expects financial markets to remain tough after the firm started the year with a quarterly loss for the first time since 2008. Like most large financial and banking outfits, the company is embroiled in major restructuring in the wake of the financial crisis.
Investors heaved something of a sigh of relief after reportedly expecting the firm’s CHF302m (£216 m) loss to be deeper than it was. However, Chief Executive Tidjane Thiam said: “While we saw tentative signs of a pick-up in … March and then in April, subdued market conditions and low levels of client activity are likely to persist in the second quarter of 2016 and possibly beyond.”
Should we worry over London-listed banks?
I think we should head the warning here. Banking is a tough game to be in right now and the risk for investors is heightened because the London-listed banks such as HSBC Holdings (LSE: HSBA), Barclays (LSE: BARC) and Royal Bank of Scotland (LSE: RBS) have all seen their earnings recover since the financial crisis.
From up here, on top of a pile of healthy looking earnings from the banks, the view down is giddying. That’s the path of least resistance too — down.
And why shouldn’t banks’ earnings and share prices plummet from here? After all, banks have business models joined at the hip to the fickle gyrations of macroeconomic cycles. I’ve read financial gurus such as David Dreman stating that banks tend to be first in and first out of economic downturns and I think that’s a good rule of thumb to follow.
Back-to-front valuation measures
Following rules of thumb when it comes to investing in out-and-out cyclical firms has saved my bacon on numerous occasions in recent years. Another guru I’m fond of reading for advice on trading cyclicals such as the big banks is Peter Lynch. The one-time Fidelity fund manager sets out a great framework for trading cyclicals in his book Beating The Street.
In essence, Lynch has it that valuation measures tend to work back to front for the cyclicals and they look the most attractive when they’re at their most dangerous. To me, that means the big banks are dangerous right now.
Look at their valuations. HSBC’s forward price-to-earnings (P/E) ratio runs at 9.7 and the forward yield is 8%. Barclays and Royal bank of Scotland are both struggling to pay a decent dividend with forward yields of 1.8% and 2%, respectively, but their forward P/E ratings are low at 7.3 and 9.9. All three banks trade in Lynch’s danger zone, so I’m avoiding their shares.
Looking for better
I sold all my shares in the big banks more than two years ago, when it looked like the cyclical upsurge in bank share prices might be over. Since then, I’ve been banging away with bearish articles on the banks and, so far, that approach has served me well.
Maybe I’ll be wrong in the future and bank shares might go up, but with so many better, growing businesses on the stock market, I can’t see any reason to risk my hard-earned capital on what I perceive to be risky bank shares right now.
