ABC Finance

The U.S. financial system isn’t out of the woods yet.

The recent collapse of troubled Florida thrift BankUnited FSB, for example, is expected to cost the Federal Deposit Insurance Corp. roughly $4.9 billion. Yet some initial results are in for the trillions of dollars in government bailout money that’s been doled out to financial firms, insurance companies and carmakers.

The financial system did not collapse, as many last fall had feared. A number of banks that stabilized and scored well in recent federal stress tests are even talking with regulators about repaying their portion of the bailout.

Investors feel the federal government is staying vigilant. Some major insurance companies recently became the latest recipients of capital infusions from the Troubled Assets Relief Program because of the erosion of their investments.

Many bailed-out companies, experts believe, again are looking like solid investments.

"Financial stocks have bounced off their lows because they’re no longer being valued primarily on the possibility of their insolvency," said Arthur Hogan, director of global equity products at Jefferies & Co. in Boston. "There are many types of insurance companies, and while most are not as laden with balance-sheet and asset issues as banks, for now they remain a difficult arena for investors."

A lesson learned by companies receiving government money is that it is better not to receive it.

"It will be perceived positively whenever a company pays back its bailout money, and it is sure to be a strong day for its stock as well," said Stuart Plesser, banking analyst for Standard & Poor’s Corp. in New York. "Having government money is considered a negative because it means a company’s executives must abide by all the government rules."

Banks have revamped their businesses by amassing cash and building up loan-loss reserves.

"The opportunity to make money in bank stocks is extremely good because they’re now so overcapitalized by any historical standard," said Richard Bove, banking analyst with Rochdale Securities, based in Stamford, Conn. "Their earnings and stock prices should triple whenever the stress in the system comes down and they can reduce their loan-loss reserves and put cash into loans."

These banks, all seeking to pay back their bailout money, seem especially solid investments:

•Bank of New York Mellon (BK), whose stock is down 5 percent this year after dropping 40 percent last year, has a reasonable stock price that hasn’t exceeded its historical highs. It features dominating size, leadership in providing back-office services to other financial firms, and solid asset-management operations to serve high rollers. Bove and Plesser recommend the stock.

•JPMorgan Chase & Co. (JPM), its stock up 11 percent this year after last year’s 24 percent decline, is one of the nation’s four largest banks in assets and should eventually benefit from its acquisitions of troubled Bear Stearns and Washington Mutual payday loan. While it has a reputation for a conservative balance sheet, it does have a lot of new components to balance these days. Bove recommends it.

•Goldman Sachs Group Inc. (GS), up 62 percent this year after last year’s 60 percent drop, is still a renowned global investment banking firm but is now reorganized as a bank holding company regulated by the Federal Reserve. Although a capital infusion from Berkshire Hathaway eases fears about its future, it still has quite a few risky securities on its balance sheet. It is another Bove recommendation.

"The entire financial industry is going to benefit from the shifts that have taken place," Bove said. "Banks have about 9 percent of their assets in cash, which has never been that high except for the Depression, and the structured financial products that caused so many problems aren’t being sold anymore."

Bove also recommends shares of Morgan Stanley (MS), Bank of America Corp. (BAC), Wells Fargo & Co. (WFC), BB&T Corp. (BBT) and PNC Financial Services Group Inc. (PNC). Plesser also suggests State Street Corp. (STT) and Regions Financial Corp. (RF).

Despite improved prospects, the earnings growth rate of financials will still be much lower than it was in the past five years, cautioned Hogan. He doesn’t expect significant earnings growth until the latter part of 2010.

Hogan recommends that investors ask these questions of any financial firm whose stock they’re considering:

•What will the long-term growth rate be at this newly stabilized firm?

• Will it need to raise more capital?

•How much debt has been taken off its balance sheet?

•Has it moved a lot of risk (such as credit derivatives) out of its portfolio?

•To what extent are regulations still hanging over its head?

"I think once upon a time the bailout did help to stabilize the financial system because some banks clearly needed it and some were told to take it," Plesser said. "Now they have shown they’ve been able to raise capital on their own, so it is a positive that the government is not as needed."

Finally, for U.S. automakers, whether they received bailout money, as did General Motors Corp., or not, as was the case with Ford Motor Co., investors shouldn’t consider their stock any more than perhaps something to trade and not to invest in, Hogan said. He points out that GM was in terrible shape before recession and that it still costs more for it to make cars than for its foreign competitors.

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Filed under: money by Specialist