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Opportunities and worries in the banking sector

The major banking institutions around the globe continue to be the mainfocus for North American stock markets as heavy losses and write-downspersist.

The major banking institutions around the globe continue to be the main focus for North American stock markets as heavy losses and write-downs persist. It has been said many times that the banking sector led the world into this crisis and thus it will have to be the banks that pull us out, but with the housing market still on the decline in the United States, it is difficult to predict when the financial industry will turn around.

TARP (Toxic Asset Relief Program) was introduced four months ago as a way to rid the banking sector of its bad assets. After a fierce debate in the U.S. Senate in October, the plan was ready to move forward, however, by the time the plan was put into action, it had changed. Instead of buying up and removing bad assets from the books of these financial firms, the government decided to inject money directly into the banks instead, which was supposed to help banks lend once again. Unfortunately, the banks did not use this money for lending purposes and many sectors of the economy continued to slide.

With half of the $700 billion TARP fund already used, President Barack Obama and his new administration are deliberating on whether they should use the second half of the money to fund the original TARP plan of buying up bad mortgages. There have been rumours that the U.S. government may form a “good bank/bad bank” scenario where the “bad bank” created by the government buys and removes bad assets from the financial sector for a certain price. It is thought that once these toxic assets are removed from the banks balance sheets, capital can be freed up and institutions can lend once again.

The Treasury secretary should be announcing his plan for the financial sector this week. The structure of the plan will have a profound effect on the markets in the United States and all over the world.

In Canada, our federal government has proposed to give our banking sector a boost by buying up and removing billions of dollars in mortgage backed securities from our banks. In turn, this should have a similar effect to what the U.S. is trying to accomplish. Our major banks are also issuing more shares to potential investors to increase their capital reserves. Both events are designed to put our financial sector in great shape to weather any future write-downs or losses, allowing them to conduct regular business.

With all this money and stimulus continuing to flow into the banking sector both here and south of the border, why wouldn’t investors be flocking to own shares of financial institutions? One of the biggest fears in the U.S. is that the government would inject so much capital into the banks that they would nationalize them and thus dilute any value in the shares. This has been done already with certain financial companies in other countries. However, both the president and the Treasury secretary have said that this is not their intention.

In Canada, there seems to be no reason why investors should not own shares of our major banks if they can handle that level of risk. The banks today are trading anywhere from 40 to 60 per cent below their highs of two years ago. Banks are also paying fantastic dividends on their common and preferred shares. An investor may earn a dividend of more than six per cent while they wait for their bank shares to rise in value again.

If there is any sector of the market that will be protected by our government in times of panic, it is the financial sector. It is the heartbeat of our economy and will be protected at all costs. Thus, why wouldn’t any investor want to invest in this sector for its security and the rates of return that it has to offer?

If you have any questions regarding the above article or are looking for an Investment Advisor to help you with your portfolio, please send me an email at asmall@dundeesecurities.com. I will be glad to speak with you!


Allan Small is an Investment Advisor with Dundee Securities
Corporation, a DundeeWealth Inc. Company. This is not an official
publication of Dundee Securities and the author is not a Dundee
Securities analyst. The views expressed are those of the author alone,
and are not necessarily those of Dundee Securities or Metro.

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