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TMFMarathonMan (98.52)

Is it Time to Buy the Banks? (2)

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August 28, 2008 – Comments (3) | RELATED TICKERS: WFC , C , KBE

This series of posts refers to my article, 'Is It Time to Buy the Banks'

CALCULATING A JUSTIFIED P/BV MULTIPLE FOR THE KBW BANK INDEX (Part II)

Cost of Equity : k = Risk-free Rate + ( Beta ) . ( Equity Risk Premium )

Risk-free Rate : 3.77%                [10-year US Treasury bond yield on 08/26/2008]

Equity Risk Premium: 3.80%       [See The Equity Risk Premium in 2008: Evidence from the Global CFO Outlook Survey, John R. Graham, Campbell R. Harvey, July 22, 2008]

Beta : 1.79%                              [Beta vs. S&P 500 of KBW Bank Index (as of 07/31/2008), KBW Bank Index Statistics, State Street Global Advisors website]

Cost of Equity : 3.77% + ( 1.79 ) ( 3.8% ) = 10.572%

 

Finally,

Justified P/BV (KBW Bank Index) = ( 10.216 - 8.34 ) / ( 10.572 - 8.34 ) = 0.84

3 Comments – Post Your Own

#1) On August 28, 2008 at 10:33 PM, anchak (99.73) wrote:

There are hundreds of other fundamental reasons ( I am waiting for someone like Ares or Demon to visit this blog) why there can be a counter argument to this.

However, since you are trying to approach this thru the help of ratios - let me ask you a few things

(1) Equity Risk Premium and Beta: Do you realize that both are time variant stochastic variables.

The risk premium that one demands is driven by the underlying volatility in the marketplace and that moves with time. The one you quote - I am presuming is possibly an average of poeple's opinion ?

Also the beta ( ie the slope) in relation to the S&P also differs with time.

Given the stochastic nature of 2 of your key elements - what happens if you did something akin to a Value at Risk approach - ie look at the underlying distribution o the P/BV ( which also would be based on DECLARED Book - and hence really another Stochastic variable - varying on the uncertainty/transparency/realism of the value itself) and then maybe consider say 90th percentile value as the correct entry price on KBW -

My bet - you will have a number between .3-.5.

Hope this makes sense

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#2) On August 28, 2008 at 11:05 PM, lquadland10 (< 20) wrote:

Oh HECK NO NO NO NO unless you just do day trading. The next round is credit card defaults. City bankruptcy all around the nation. Look at the fact that 2 line home loans going into default on prime homes. This was the first round and it took 10 mos. Get ready for the next round because it is going to be worse than the last one. More layoffs. MY GOD it is so bad out there that the non documented worker from Mexico is going home. The Labor report says that there are 8.5 million unemployed but the uncounted ones and the ones who went from full time to part time is more like 11.5 million. The fraud in the banking system has not been taken care of yet. Charging more fees and we have 2 to 5 more years of house decreases. No this is just the tip of the ICE BURG. Kati bar the gate because the American person is now saving and trying to pay off debt. It is so bad and you have not seen anything yet.

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#3) On August 29, 2008 at 12:34 AM, wm052 (30.36) wrote:

If you decide to buy a bank - try to make sure they have lots of CASH - real money - and NO sub-prime - lots of other factors too but that's a quick start W

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