Is Wells Fargo Still a Safe Bank to Own?

Source: Thinkstock

Source: Thinkstock

Wells Fargo (NYSE:WFC) is a bank that many of us are familiar with and probably have done business with. The stock has pulled back about 5 percent from its 52 week high, but I think it can continue to climb higher. This is because despite it reporting slowing earnings growth, there are a lot of positives going for the bank. I have long considered it a safe investment that offererd growth and a decent yield. The yield in fact is at 2.7 percent after pulling back from its highs. In this article, I will review the key highlights of the stock’s earnings that you need to know and make a recommendation on the stock moving forward.

Let’s start with the headline numbers that everyone probably saw on the news. Wells Fargo reported net income of $5.7 billion, or $1.01 per diluted common share for the quarter, up from $5.5 billion, or $0.98 per share, for second-quarter 2013. This is growth, but the growth is certainly slowing down. This 3 percent rise is well below the high single digit growth we were seeing in year’s past. Is this a warning sign? Perhaps.

How was revenue? Well, Wells Fargo’s revenue came in at $21.1 billion, up from $20.6 billion in first-quarter 2014. This is again slowed growth, but growth nonetheless. The growth comes from increases in both net interest income and non-interest income. Several segments produced growth, including capital markets, corporate banking, commercial real estate, corporate trust, debit card, personal lines and loans, merchant services, and retail brokerage.

I mentioned both net interest income and non-interest income rising. Net interest income increased $176 million to $10.8 billion driven by organic growth in commercial and consumer loans and higher mortgages held for sale and trading assets. However, approximately one-third of the increase resulted from the benefit of one additional business day in the quarter. Interest income from variable sources, including purchased credit-impaired (PCI) loan resolutions and periodic dividends, also improved slightly linked quarter. Noninterest income in the second-quarter was $10.3 billion, up from $10.0 billion in the prior quarter. Growth was broad-based and was driven by increases in mortgage banking, trust and investment fees, deposit service charges, and card fees.

Net interest margin was disappointing, but the reason for it is a positive one. The net interest margin was 3.15 percent, down 5 basis points from first quarter 2014 as strong customer driven deposit growth contributed to higher cash and short-term investment balances. This deposit growth was essentially neutral to net interest income, but had the effect of diluting net interest margin approximately 5 basis points. The net impact of all other balance sheet growth and repricing was essentially flat from first-quarter.

Loan growth was a huge bright spot. Total loans were $828.9 billion at June 30, 2014, up $2.5 billion from March 31, 2014, driven by broad-based growth in commercial and industrial, automobile, credit card, 1-4 family first mortgage, and commercial real estate loans. There was across the board growth, which was very positive. Further, total average deposits were $1.1 trillion, up 9 percent from a year ago and up 9 percent from first-quarter 2014, driven by solid commercial and consumer growth. Another positive was that nonperforming assets decreased by $686 million from first quarter to $18.1 billion. Nonaccrual loans decreased $678 million to $14.0 billion while foreclosed assets were $4.1 billion, in line with the first-quarter. Chair and CEO John Stumpf stated:

“Our strong results in the second-quarter reflected the benefit of our diversified business model and our long-term focus on meeting the financial needs of our customers. By continuing to serve customers we grew loans, increased deposits and deepened our relationships. Our results also reflected strong credit quality driven by an improved economy, especially the housing market, and our continued risk discipline. We are committed to both maintaining strong capital levels and returning more capital to our shareholders. In the second-quarter we increased our common stock dividend 17 percent and repurchased 39.4 million shares. We remain dedicated to building long-term shareholder value, and I am optimistic about the future as we continue to focus on meeting the needs of our consumer, small business and commercial customers.”

I think Wells Fargo’s report was a good start to the earnings season for banks. The superb loan growth was a strong point that probably helped the stock absorb some of the blow from a weak earnings growth. I think Wells Fargo is a diversified bank and its asset base is strong and improving. I reiterate that Wells Fargo is a relatively stable investment, with the opportunity for share appreciation as well as yield.

Disclosure: Christopher F. Davis holds no position in Wells Fargo and has no plans to initiate a position in the next 72 hours. He has a buy rating on the stock and a price target of $57.

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