MorningWord 12/12/16: Wells Fargo – The Phony Express

by Dan December 12, 2016 9:29 am • FREE ACCESS

A few weeks ago I had the following to say about Wells Fargo, and the stock’s post election bounce which seemed to be discounting any further fall-out from their fake account scandal:

In the wake of the Wells Fargo’s (WFC) fraudulent account scandal, the company’s new (kind of old) President & CEO Tom Sloan issued a statement on their retail banking operations “as part of our ongoing commitment to transparency”.

Here were the low-lights (emphasis ours):

  • Consumer account opens were down 27% LM and 44% YoY primarily due to a full month impact of customer reaction to the sales practices settlement and reduced marketing activities
  • Customer-initiated account closures were up modestly, 3%, both LM and YoY
  • New credit card applications continued their downward trend with applications down 35% LM and 50% YoY primarily due to reduced marketing activities and a full month impact of customer reaction to the sales practices settlement

As far as the actions taken to remedy the fraud that took place for years in retail banking, possibly with senior management’s knowledge dating back to 2007, they may prove to just preliminary actions if Sloan, former CEO John Stumpf’s replacement was also aware of and slow to act to fix the illegal account openings in retail banking.  Also we learned last month on CNBC, that the former head of the retail baking group, Carrie Tolstedt, who booked $124 millionin compensation for her oversight, reported to Sloan as recently as last November, when he was President and COO.

Since that post of Nov 17th, shares of Wells Fargo (WFC) are up 10%, quickly approaching its 2015 and all time high made in mid 2015, despite Friday’s report of Accusations of Fraud at Wells Fargo Spread to Sham Insurance Policies (NYT):

Wells Fargo has a partnership with Prudential to sell a low-cost life insurance policy to the bank’s retail customers. After news of the Wells Fargo settlement in September, Prudential ordered an internal review of its dealings with the bank, to make sure nothing was amiss with the joint endeavor.

A lot was amiss. According to three former managers in Prudential’s corporate investigation division, Wells Fargo employees appeared to have signed up bank customers for Prudential insurance without the customers’ knowledge or permission. In some cases, they even arranged for monthly premium fees to be withdrawn from their customers’ accounts.

Following the September settlement, and October’s CEO change, investors might have thought the worst was behind the usually pristine bank. In the days following the election as the stock market and particularly bank stocks took off, WFC bounced hard of off 1 year technical support in the mid $40s, broke above the nearly 18 month downtrend from its 2015 highs and threatening new all time highs:

WFC 5yr chart from Bloomberg
WFC 5yr chart from Bloomberg

Despite all of the headline risk, shares of WFC trade 1.5x its book value, while the darling JP Morgan (JPM) trades 1.3x, and Goldman Sachs (GS), whose stock has had the most dramatic gains since the election (35%!!) at 1.3x, seems a bit off to me. With moneycenter banks like Bank of America (BAC) and Citibank (C) still below 1x book, a long BAC & C and short WFC might be an attractive pairs trade for those who think banks have more room to run, because what seems clear is that WFC fake account scandal might have been part of their culture, as opposed to being a one-off, multi-year, 5,000 employee strong, isolated incident.

Right now these headlines are being shrugged off as all bank stocks rally in anticipation of higher interest rates and deregulation. But that only lasts for so long. And based on what we know so far, I doubt this is the end of bad headlines for Wells Fargo.