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44 - Investing in Bank Stocks (WFC, CFR, ALLY, DFS)

The DIY Investing Podcast

Release Date: 09/29/2019

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More Episodes

Mental Models discussed in this podcast:

  • Credit
  • Leverage

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If you enjoyed this podcast and found it helpful, please consider leaving me a rating and review. Your feedback helps me to improve the podcast and grow the show's audience. 

Support the Podcast on Patreon

This is a podcast supported by listeners like you. If you’d like to support this podcast and help me to continue creating great investing content, please consider becoming a Patron at DIYInvesting.org/Patron.

You can find out more information by listening to episode 11 of this podcast.

Show Outline: Bank Investing

The full show notes for this episode are available at https://www.diyinvesting.org/Episode44

Four Types of Banks for discussion:

  • Wells Fargo (WFC) - National and Global Bank (ROE about 13%)
  • Frost Bank (CFR) - Regional bank focused solely on Texas (ROE about 13%)
  • Ally Bank (ALLY) - Online-only bank (ROE about 12%)
  • Discover Financial (DFS) - Niche bank focused on credit cards (ROE about 26%)

The Business Model of Credit Card Companies

  • Take in deposits and then make loans on those deposits
  • A highly leveraged business model
    • Leverage is your enemy
    • Leverage is your friend
  • Two ways to make money:
    • Bring in deposits at low cost
    • Make loans at high returns

Quality of the business:

  • Driven by two factors:
    • Deposit retention
    • Cost of deposits
  • Infinite durability - there will always be a need for banking services
  • High switching costs

Potential Threats

  • The high number of competitors
  • Low-interest rates
  • Competition on rates paid for deposits
  • Liquidity crisis - see 2009 financial crisis
  • Making bad loans - see 2009 financial crisis
  • Too much leverage - see 2009 financial crisis

Summary

Investing in banks is an attractive proposition. However, banks also come with major risks. Even your most average bank operates at a very high rate of leverage. Leverage can be both a curse and a blessing. Unfortunately, you will have to do your research on each individual bank to determine how their leverage is being used.