What is the best way to analyse a stock?
Feb 07, 2022 · When trying to analyze a particular bank stock, it's a good idea to focus on four main things: What the bank actually does; Its price; Its earnings power
How does a beginner quantitatively analyze a stock?
Jul 16, 2020 · Deposits can be found under Total Liabilities in the balance sheet, and this simple ratio can tell you to what extent the bank stock you are evaluating deals with vanilla consumer deposits. Loan percentage (%) = Loans / Total Assets
How to research a stock before you invest?
The first term on how to analyze bank stocks is Net Worth. Also known as the Shareholder’s Equity, Net worth of a bank is a crucial number. Since banks have to make sure that depositor’s money remains safe, they cannot accept unlimited deposits and keep lending.
How to use Morningstar to evaluate a stock?
Apr 24, 2015 · Consequently, the first number investors should look at when analyzing a bank stock is the bank's lowest annual return on equity since 2008. If that figure is negative, long-term investors should...
How do you financially analyze a bank?
The three crucial elements in all financial analyses include:Liquidity: ability to meet the obligations of liquid funds.Solvency: credit quality and adequacy of the bank's own resources (indebtedness).Profitability: ability to generate income/profit from allocated capital.Apr 25, 2018
How do you analyze bank performance?
Bank managers and bank analysts generally evaluate overall bank profitability in terms of return on equity (ROE) and return on assets (ROA). When a bank consistently reports a higher than average ROE and ROA, it is designated a high performance bank.
How do you know if a bank is profitable?
Bank profitability is measured by ROAA, ROAE (return on average equity), risk-adjusted returns, and the price- to-book ratio (a proxy for charter value).
What is a good cet1 ratio?
They should hold enough capital to equal at least eight percent of risk-weighted assets and the highest quality capital - common equity tier 1 - should make up at least 4.5 percent of risk-weighted assets. These measures were developed in response to the financial crisis of 2007-2009.Feb 24, 2022
What is the primary business of a bank?
Banks primary business is to give out loans to different customers and charge interest on the loans. Banks also have other fee-based business like credit card and debit card services, transferring money, insurance, mutual funds, etc. Table of Contents.
How to calculate net interest margin?
Net Interest Margin is calculated by dividing Net Interest Income to Interest bearing assets such as loans and advances. It is to be compared over the years to assess the business of the banks.
Why is total advance important?
Total Advances is an important metric to look at because the bank’s primary earning comes from this asset. Advances are loans given out to customers and hence it is considered as assets in business and one of the key part of banking stock analysis .
When does a loan become non-performing?
A loan asset becomes non-performing when it ceases to generate any income for the bank. Gross NPAs are the total loans classified by the banks as non-performing. Higher NPAs is adverse for the banks. This should be checked to determine the asset quality of the banks.
What is net interest income?
Net Interest Income (NII) is the difference between interest earned from a bank’s lending activities to its customers and the interest paid to account holders. If the spread between interest earned and interest expenses rises, it will help NII to rise and vice versa. This measure will give us a good idea about the principal business of the bank.
What is a high casa ratio?
CASA ratio of a bank is the ratio of deposits in current and savings account to total deposits. A higher CASA ratio is desired because banks give low rate of interest in savings account (3-4%) deposits and no interest in current account deposits. High CASA ratio indicates lower cost of funds.
What is capital adequacy ratio?
Capital Adequacy Ratio is the ratio of bank’s capital to aggregated risk-weighted assets. It is also known as capital to risk weighted assets ratio (CRAR). It is decided by central banks to prevent commercial banks from taking excess leverage.
How can banks grow?
How banks can grow? By collecting more deposits from public. Then by keeping 20% of it aside – as part of CRR and SLR, and using the balance 80% to lend to others. This way they will earn revenue and also make some profits.
Why do investors use ROA?
Why investors must use it for banks? It helps investors to understand, how well the total assets are used by the bank to generate profits. The higher is the ROA, the better.
Is SBI a safe bank?
The bank is lending only about 74% of its borrowed money. This is what can make SBI a safe bank. Compare this with Yes Bank, it is lending more than its deposits (A/D ratio is above 1). Other banks Like HDFC Bank, Kotak Mahindra also has A/D below 1. Hence, Yes Bank is risky, while other banks are comparatively safer.
Is a bank with a low ADR safe?
A bank which maintains a low ADR (Advance To Deposit Ratio) is considered safe. Consider the case of State Bank of India. Considering that it is a public sector bank, it should mandatorily operate within safe limits. How to know this?
How is capital ratio calculated?
The capital ratio is calculated as a bank's capital divided by the risk-weighted assets. Capital ratios are usually calculated for different types of capital ( tier 1 capital, tier 2 capital) and are meant to assess a bank's vulnerability to sudden and unexpected increases in bad loans.
What does LDR mean in banking?
The loan-to-deposit ratio (LDR) indicates a bank's liquidity; if it is too high, the bank may be susceptible to a bank run due to rapid changes in its deposits, meaning it may not have enough funds to cover its requirements. If the ratio is too low, it can indicate that a bank is not meeting its earning potential.
What is the difference between P/B and P/E?
The P/E ratio is defined as market price divided by earnings per share (EPS), while the P/B ratio is calculated as market price divided by the book value per share. P/E ratios tend to be higher for banks that exhibit high expected growth, high payouts, and low risk. Similarly, P/B ratios are higher for banks with high expected earnings growth, low-risk profiles, high payouts, and high returns on equity. Holding all things constant, return on equity has the biggest effect on the P/B ratio.
How to calculate efficiency ratio?
The efficiency ratio is calculated as a bank's expenses (excluding interest expense) divided by the total revenue. The main insight that the efficiency ratio provides is how well a bank utilizes its assets in generating revenue. A lower efficiency ratio signals that a bank is operating well. Efficiency ratios at 50% or below are considered ideal. If an efficiency ratio starts to go up, then it indicates that a bank's expenses are increasing in comparison to its revenues or that its revenues are decreasing in comparison to its expenses.
When was the Glass-Steagall Act repealed?
After the Glass-Steagall Act was repealed in 1999, commercial banks were allowed to be involved in investment banking. Since then, banks became widely-diversified and are commonly involved in various securities and insurance products.
What is NIM in banking?
NIM is the metric for the typical bank that reveals its most bread and butter profit source—how much they earn in interest from their loans after taking out interest paid for deposits. All other things equal, a bank who can earn a higher “spread” on their interest paid and received will be the most profitable.
What is balance sheet?
A balance sheet comprises of assets, liabilities, and equity, and the numbers of assets and liabilities tend to dwarf the equity. This renders ( usually useful) metrics such as Debt to Equity (as measured by Total Liabilities divided by Shareholder’s Equity) mostly useless. That’s why you’ll need special metrics if you want to truly understand bank ...
Who wrote the Alchemy of Finance?
One of those is billionaire George Soros, who wrote a fantastic classic called The Alchemy of Finance, where he lays out the history of one of the greatest banking booms in recent times, directly following the first oil shock of 1973.
How to analyze bank stocks?
Since every deposit accepted by the bank is a liability which the bank has to pay back to is depositors with interest, in order to keep depositors money safe, banks have to maintain a financial leverage which is also known as equity multiplier.
What is the most important ratio to analyze bank stocks?
The final term in our guide on how to analyze bank stocks. One of the most important ratio every investor must pay attention to is Non Performing Asset or NPA.
What does higher net interest mean?
Higher Net Interest Margin shows that bank has efficiently allocated its resources, which shows that banks is able to accept deposits at lower interest rate from its public and is able to lend at a higher interest rate.
What is the ROA of a bank?
Since most of the banks are highly leveraged (that is instead of lending their own money, they borrow from depositors and lend it to the borrowers) an ROA of 1%-3% may represent substantial revenue and profit for a bank.
What is the second factor to look at when analyzing a bank?
Net Interest Margins: The second factor we look at while analyzing a bank is it’s Net Interest Margins. If we look at the Net Interest Margin s of PNB it has declined consistently which means that bank is losing its profitability.
What is the second bank in our case study of how to analyze bank stocks?
The second bank in our case study of how to analyze bank stocks is a bank that has created shareholder value by managing its assets efficiently and taking calculated risk.
What is the most important number for a bank?
Non Performing Asset: Finally, the most important number for a bank, is the NPA, denoting amount of loans a bank assumes will be bad and need to be written off balance sheet.
What is the primary business of a bank?
The primary business of a bank is managing the spread between deposits that it pays consumers and the rate it receives from their loans. In other words, when the interest that a bank earns from loans is greater than the interest it pays on deposits, it generates income from the interest rate spread .
What is the table below ties together information from Bank of America's balance sheet and income statement?
The table below ties together information from Bank of America's balance sheet and income statement to display the yield generated from earning assets and interest paid to customers on interest-bearing deposits. Most banks provide this type of table in their annual 10K statement. 1
What is credit risk in financial statements?
Credit Risk. The reported financial statements for banks are somewhat different from most companies that investors analyze. For example, there are no accounts receivables or inventory to gauge whether sales are rising or falling. On top of that, there are several unique characteristics of bank financial statements that include how ...
What is balance sheet item?
You'll notice the balance sheet items are average balances for each line item, rather than the balance at the end of the period . Average balances provide a better analytical framework to help understand the bank's financial performance .
What is banking regulation?
Banking is a highly- leveraged business requiring regulators to dictate minimal capital levels to help ensure the solvency of each bank and the banking system. In the U.S., banks are regulated by multiple agencies, and some of them include the Federal Reserve System (FRS) , the Office of the Comptroller of the Currency, the Office of Thrift Supervision, and the Federal Deposit Insurance Corporation (FDIC) . These regulators focus on ensuring compliance to uphold the soundness and integrity of the banking system.
What is credit risk?
Credit risk is the likelihood that a borrower will default on a loan or lease, causing the bank to lose any potential interest earned as well as the principal that was loaned to the borrower. As investors, these are the primary elements of risk that need to be understood when analyzing a bank's financial statement.
What is provision for loan losses?
Arriving at the provision for loan losses involves a high degree of judgment, representing management's best evaluation of the appropriate loss to reserve. Because it is a management judgment, the provision for loan losses can be used to manage a bank's earnings.
What is the main business of a bank?
A bank’s main business is lending money. It’s primary source of income is the interest it receives on the lent money. A bank also has to pay interest to its account holders. NII is the difference between interest earned from loans (assets) and interest paid on deposits (liabilities).
Why does a bank fail?
A bank fails when it is unable to meet its obligations towards its depositors (account holders) and creditors. This may occur due to the bank losing out a lot of money on bad loan accounts and is unable to raise capital in time to continue its lending business.
What is banking failure?
A banking failure is considered as a major event in a country’s economic environment. This is due to the fact that banks serve as the backbone of a country’s business ecosystem and a failed bank may have drastic effects across many other industries.
What is the role of RBI?
One of RBI’s primary role is to safeguard the interests and the money of the bank depositors.
Can a depositor understand financial statements?
For a common depositor, it may not be possible to go through and understand complex financial statements of banks. Nevertheless, they can always consult their financial advisors or a friend / family member having finance background. But for investors, understanding financial statements is something that is expected as a basic skill to possess. Below are the key performance indicators that investors should track in banking stocks.
What is CDR in banking?
CDR measures how much portion of the total deposits (money of account holders) does the bank lend out to its customers as loans. Along with the depositors’ money, banks also use their core capital to lend out loans. CDR for private banks in India is around 85% while that for public banks is around 75%.
Is there smoke without fire?
There is no smoke without fire. Several signs can alert you when a bank is in trouble. The recent collapse of Yes Bank in March 2020 has shattered the myth of many investors that a bank cannot fail. Yes Bank was quickly bailed out by the joint efforts of the RBI, Central Government and the State Bank of India.
How to analyze bank stock?
Since every deposit accepted by the bank is a liability which the bank has to pay back to Its depositors with interest, in order to keep depositors’ money safe, banks have to maintain financial leverage which is also known as an Equity Multiplier.
Why is the net worth of a bank important?
Since banks have to make sure that the depositor’s money remains safe, they cannot accept unlimited deposits and keep lending.
What is net interest income?
Net Interest Income (NII) is the total revenue generated by a bank from lending and other interest-earning activities minus all interest expenses. Banking is a business of borrowing and lending. The bank has to pay interest on the borrowed money and it earns interest on the money it has lent.
What is the most important indicator for investors?
One of the most important indicators every investor must pay attention to is Non-Performing Asset or NPA. Not every loan provided by the banks gets repaid, some borrowers find themselves unable to pay back their loans, resulting in default.
What is capital adequacy ratio?
Capital Adequacy Ratio measures the ability of a financial institution to meet its requirements by comparing its capital to its assets. Regulatory authorities monitor this ratio to see if any financial institutions are at risk of failure.
Why is ROA important?
Since most of the assets of a bank largely consist of money, ROA indicates how much return a bank is earning on each rupee, making it a better measure of capital efficiency for a bank.
Banking Business
Financial Ratios For Banks
- The bank must maintain a balance between growth and risk. Growth is good, but it cannot be done at the stake of making its business riskier. Example: Yes Bank. It only focused on increasing asset size. But it cared less about the quality of its assets. Hence as on date, it is sitting on a pile load of NPA’s. How to check if a bank’s business is safe or heading towards high risk zone – lik…
How to Analyze Bank Stocks: Steps
- Analysis of banking stocks begins with (a) Knowing the business model of banks and (b) Knowing the concept of EM, ROA and ROE. Once a person is done with this, he/she can take the following steps to analyze stocks: 1. Step #1. Collect Data. It essential to collect financial data of banks. One can get this data from websites like business-standard, ...
Conclusion
- It is essential for banks to collect more and more deposits. But it must not cross the financial leverage of 15 (read this). Goods Banks maintain a minimum ROA of 1%. It is also important for banks to ensure ROE above 15% (rule of thumb). Banks whose NIM is growing, but ROA is decreasing is not a good sign for investors. One easy check it to look at the following: (a) PAT G…
P/E and P/B Ratios
Efficiency Ratio
- The efficiency ratiois calculated as a bank's expenses (excluding interest expense) divided by the total revenue. The main insight that the efficiency ratio provides is how well a bank utilizes its assets in generating revenue. A lower efficiency ratio signals that a bank is operating well. Efficiency ratios at 50% or below are considered ideal. If...
Loan-To-Deposit Ratio
- The loan-to-deposit ratio (LDR) indicates a bank's liquidity; if it is too high, the bank may be susceptible to a bank rundue to rapid changes in its deposits, meaning it may not have enough funds to cover its requirements. If the ratio is too low, it can indicate that a bank is not meeting its earning potential. The ratio is determined by comparing a bank's total loans to its total deposits.
Capital Ratios
- Capital ratios receive a lot of attention due to the Dodd-Frank reform that requires large and systemically important financial institutions to undergo stress tests. The capital ratio is calculated as a bank's capital divided by the risk-weighted assets. Capital ratios are usually calculated for different types of capital (tier 1 capital, tier 2 capital) and are meant to assess a bank's vulnerabi…