Are Wells Fargo’s Premium Valuations Unwarranted?

Generally, banking stocks (XLF) trade between 1x and 2x their book values. Stocks trading lower than their book value attract investor attention because they are considered to be generating extremely poor returns. Price-to-book value (or PBV) compares a company’s current market price to its book value. These ratios are commonly used to compare financial services firms because most assets and liabilities of banks are constantly valued at market values. If a company trades lower than its book value, it means that either the asset value is overstated, or the company is generating a poor return on its assets.

Wells Fargo’s (WFC) book value has grown twice that of JP Morgan (JPM) and ten times that of Bank of America (BAC) in the past ten years. It has been one of the most profitable banks in America, generating a 1.2% return on assets in 2016. However, risks from loss of client confidence and reputation have hurt the bank in the last one month. Wells Fargo’s shares are currently trading at a premium to US peers like JPMorgan Chase, Bank of America, and Citigroup. Such premium valuations are unwarranted for Wells Fargo given the multiple downside risks it faces currently.