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January 20, 2009

Banks of America
by Michael Pento

Investors who have been pining for a chance to buy into the beleaguered banking sector may have a bit longer to wait. Just this past Friday holders of Bank of America's (NYSE: BAC) stock were greeted with the reporting of the company's first quarterly loss ($1.79 billion) since 1991. To make matters worse, the company cut its quarterly dividend from $.32 to $.01. The loss prompted a new rescue package totaling $138 billion, which comes on the heels of the recent round of government injected capital of $25 billion last year.

That level of distress has forced the shares of the largest U.S. bank by assets down 74% in the last 6 months. But it's not just BofA that has been suffering lately; the Financial Select Sector SPDR (NYSE: XLF) has nearly 2/3 of its value in that same time period.

So why have financials suffered so much in the past year and is now a good time to jump in? After all, with losses like those it's hard to imagine how the sector wouldn't offer a good opportunity, even if just from a contrarian's perspective. But there are three factors that belie the inclination to pony up new cash at this time.

First, investors must understand that Citigroup (NYSE: C), Wells Fargo (NYSE: WFC), et al could all be named "Bank of America," as they have become de facto wards of the state. Government investment in the financial sector goes hand in hand with government control. That means lending practices, dividend payouts and compensation packages will now be highly influenced by the government. Unless you view the post office or DMV as models of efficiency, this wouldn't seem the best path back to corporate health.

Second, since there appears to be no imminent end to their write downs, many of these banks will likely need to raise yet more capital from the government in the future. More capital injections mean more dilution to the existing shareholders.

And finally, investors must realize that before these financial companies can begin to return profits to their investors, the government must get paid back first.

It is not until the housing market bottoms and the unemployment rate plateaus that the economy can begin to stabilize. That would help place a floor under banks' assets and put an end to their seemingly endless parade of write downs. Only then can investors accurately access the value of banking shares. Until then it is advisable to avoid trying to catch the proverbial falling dagger.

Be sure to listen in on my Mid-Week Reality Check.

Michael Pento
Chief Economist
Delta Global Advisors, Inc.
800-485-1220

With more than 16 years of industry experience, Michael Pento acts as chief economist for Delta Global Advisors and is a contributing writer for GreenFaucet.com. He is a well-established specialist in the Austrian School of economic theory and a regular guest on CNBC and other national media outlets. Mr. Pento has worked on the floor of the N.Y.S.E. as well as serving as vice president of investments for GunnAllen Financial immediately prior to joining Delta Global.

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