RD's Picks

Our question of the week asks if Citigroup (C) is a screaming buy. The stock certainly seems to be trading at a substantial discount to the market with a forward PE of 7 and price-to-book value of a little over 1. But, we need to look and see if that discount is warranted before placing any buy orders.

C and most other financial firms have had huge write-offs for bad mortgage loans over the past six months or so. In Citi's case, there's also a new CEO on board and we don't know what changes Mr. Pandit might make going forward or what new gremlins might be hiding on the balance sheet. Even though there have been substantial write-offs, there's no guarantee that the mortgage market has bottomed or that other consumer credit or commercial loans won't fall into the same swamp of defaults and uncertainty.

We also need to compare Citi to its competition to see how the valuation stacks up.

C does trade at a discount to the competition, but not a substantial discount. In this market, I'm very skeptical of forward earnings estimates and book values for financial firms. In Citi's case, I believe the uncertainties associated with a new CEO and what's on the books from the previous management warrant the discount to the competition. Citi cheap? - maybe. A screaming buy? - no.

Even though they trade at a premium, JP Morgan or Wells Fargo look like better investments to me. WFC and JPM haven't had as much bad news as some of the other banks and seem to have done a better job of managing credit risk. JPM looks cheap on book value and Wells' ROA and ROE look downright stellar in comparison to the others. All of these banks offer dividend yields above 5-year treasuries - a good deal for income investors IF they don't have to cut the payout. Bank of America, Wachovia and Citi's dividend yields are at a level that indicates the market is pricing in a significant risk of a dividend cut.

Citi offers more potential reward than other banks IF the worst is behind them. At current prices, that reward seems matched with higher risk. And, I suspect there will be some more stumbles along the way to recovery.

For any of these names, I wouldn't be backing up the truck. It might still be early, but nibbling on dips to establish a position makes sense. I think the credit markets will stay foggy and continue to offer occasional buying opportunities for some time.

In short, a trip to the Citi is a little more risk than I care to deal with.

Disclosure: I hold WFC both in SLO and real life. That hasn't been a lot of fun lately, but gradually buying on dips recently was profitable and the dividend payments help ease the pain.

Comments: View Comments |  Saturday February 16, 2008  |  Stocks: c, jpm, wfc,