Neil Woodford Is Buying HSBC Holdings plc. Should You Follow?

Neil Woodford is somewhat of a City superstar. His stewardship of Invesco Perpetual High Income made it one of the UK’s biggest funds, and his defensive approach to investing has proven to be highly successful.

However, Woodford has never been a fan of banks. Actually, Woodford’s dislike of banks is well-known around the City — he has not brought a single share in any bank since 2003, a decision that helped his funds avoid much of the devastation spread by the financial crisis. 

But now, after leaving Invesco Perpetual to launch his own company, Woodford Investment Management, Woodford is looking at banks again, or to be more specific, one bank, HSBC Holdings (LSE: HSBA) (NYSE: HSBC.US), as he sets out to launch his new fund, CF Woodford Equity Income at the beginning of June.

Tentative steps

Woodford is still not ready to fully commit to the banking industry and only started buying HSBC in small chunks last year. Nevertheless, the bank now accounts for approximately 2% of the £3.7bn mandate Woodford runs for wealth manager, St James’s Place.

Like all Woodford’s investments, he believes that HSBC is:

“…well-managed, it has learnt from its mistakes, and it’s cheap…”

Indeed, at present levels HSBC currently trades at a forward P/E of 11.6, similar to the ratio the bank traded at during the midst of the financial crisis — so there is no question that HSBC’s shares are cheap.

Additionally, HSBC trades at a valuation more than 50% lower than its peers; the wider banking sector trades at an average P/E of around 25. 

Dividends and capital

Woodford has also revealed that one of the reasons he likes HSBC is because of the bank’s industry-leading Tier one capital ratio of 13.3% and improving balance sheet. Specifically, HSBC’s management has recently been ‘de-risking’ the bank, pruning exposure to risky mortgages and low-quality loans, as well as exciting regions where the bank’s operations could be disrupted by criminal activity; Latin America to be specific.

Further, Woodford is attracted to HSBC’s dividend, as management’s drive to cut costs as well as bolster the bank’s balance sheet has improved the quality of the payout.

With a current historic dividend yield of 4.6% and City estimates calling for the bank to offer a yield of 5% and 5.4% for 2014 and 2015 respectively, it’s easy to see why Woodford is picking HSBC for his income fund. 

Nevertheless, Woodford has not totally forgiven the banking sector and still has his reservations about HSBC. Specifically, the star fund manager has stated that while HSBC is attractive on many metrics;

“…It’s exposed to many of the pressures that keep me out of wanting to invest in other banks…”

Should you follow?

The key question is, should you follow Woodford into HSBC? 

Well, as Woodford has said, HSBC is a well-run bank with plenty of capital and currently supports an attractive dividend yield, all while trading at an attractive valuation. So, on that basis, HSBC looks to be a great long-term Foolish investment. 

Tough to analyse 

To some, the banking sector may appear daunting. Indeed, the complex numbers and formulas used to value banks can be daunting for even the most experienced analyst.

However, with dividend yields over 4% banks like HSBC could help you to boost your portfolio returns and make 2014 an even stronger year for your portfolio.

To help you analyse the sector, analysts at The Motley Fool have put together a free and without obligation guide to the banking sector called 'The Motley Fool's Guide To Banks.'

The guide is jargon-free, simple and can be put into use right away -- you don't need to be a banking expert to take advantage of it!

It Why not take a look at the free report now, by clicking here.

Rupert does not own any share mentioned within this article.