There’s No Reason To Fear These Banks

Many investors are still afraid of banks, with the mistakes of 2008 and 2009 frequently cited as the reason why. 

Indeed, many investors, both small and large alike, believe that banks balance sheets are ‘black boxes’, full of hidden surprises and skeletons from the past.

Things have changed 

However, since the financial crisis, things have changed in the banking sector. The days of loose credit are over, banks are closing their risky investment banking divisions and customer relationships now come before profit.

What’s more, the world’s largest banks are now under almost constant scrutiny by regulators and central banks, e.g., the Federal Reserve and Bank of England. 

When you take all of these factors into account, it seems silly to suggest that the banking industry cannot be trusted. Sure, there may be some elements of the industry which are still dubious, but with many banks being assessed almost daily by regulators, banks keen to prove that they can behave themselves.

If anything, with so many regulatory bodies overseeing the industry, it could be said that the banking industry is now safer than it has been at any point during the past decade.  

Reducing risk Lloyds

Lloyds (LSE: LLOY) is a great example of the change which has taken place within the sector during the past five years.

For example, at the end of the first quarter the bank reported equity tier 1 ratio — its “financial cushion” — of 10.7%, up from 10.3% reported at the end of 2013. Lloyds’ management has stated that the bank’s desired tier one ratio should be no less than 11%.

However, compare the above statement to the statement below, found within Lloyds’ 2008 annual report:

The enlarged [HBOS and Lloyds] Group retains a robust capital position, with an adjusted pro forma core tier 1 capital ratio of 6.4 per cent as of 31 December 2008, which means we are well placed to withstand the impact of any slowdown in the economy.

What’s more, Lloyds’ has made significant progress, during the past year alone, in de-risking its balance sheet. At the end of 2013, Lloyds revealed that the group had reduced the total value of risk weighted assets on the balance sheet to £263.9bn, down from £310.3bn reported during 2012.

Additionally, over the same period, total credit risk exposure fell to £724.9bn, down from £759bn.

HSBCExiting risky markets

HSBC (LSE: HSBA) (NYSE: HBC.US) already has an industry-leading tier one capital ratio of 13.3%, but the bank is now working on changing its culture for the better.

During the past few years HSBC has pulled out of Bahrain, Jordan and Lebanon, as well as some Latin American operations, after accusations of money laundering. Further, HSBC has shrunk its US mortgage loan portfolio, which at one point stood at $118bn but is now worth less than $30bn. 

Internally, the bank’s staff are now no longer paid on a commission basis but on a “balanced scorecard” of performance targets. Unfortunately, concentrating on quality over quantity has hit sales, but at least the bank now has a better reputation. 

Will take timeBarclays

Sadly, while HSBC and Lloyds have made noticeable changes to their operations, Barclays (LSE: BARC) (NYSE: BCS.US) has only just started to realize that it needs to take action. 

Nevertheless, the bank has got straight to work, cutting 7,000 investment banking jobs this year in an attempt to reduce costs and improve profit margins. The bank is also spinning off underperforming and toxic assets into a ‘bad bank’. This will allow the group to focus on its core businesses, Barclaycard, Barclays Africa and Barclays UK retail.

Should you buy in?

Still, only you can decided if a bank deserves a place in your portfolio and I'd strongly suggest you look a little closer at the company before making any trading decision. 

However, placing a valuation on banks is never a simple task, so to help you conduct your own analysis our analysts here at the Motley Fool have put together a free report entitled "The Motley Fool's Guide To Banking".

This exclusive FREE wealth report provides six key 'City insider' valuation metrics for each bank traded in London. That's right: the report is not just limited to Lloyds, HSBC or Barclays -- it gives a rundown of the whole industry.

The results are surprising -- and revealing. This report is free and without obligation. To get your copy, click here.

Rupert does not own any share mentioned within this article.