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Leigh Baldwin & Co.

112 Albany Street, Cazenovia, NY 13035 | Phone: (315) 655-2964 Toll Free: 1-800-659-8044

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Stock of the Week

Wells Fargo

October 11th 2016

Wells Fargo
NYSE Symbol: WFC
Industry: Banking
Price as of 10/10: $45.65


                Earnings season is upon us and the major averages have gone nowhere since July, during the last quarterly earnings season. Even though the averages haven't gone anywhere, the good news is the markets were able to get through the traditionally weak months of August and September without much of a pullback. So the question is, is there enough fire power to start a year-end rally?       

The Presidential election is holding back some buying power. We'll see if the post-election will unleash more buying power. It may not. We may simply see further consolidation into year end, but we should continue to have more sector rotation. Since the start of the second half of the year, the best performing sectors Utilities, Telecom and Consumer Staples have come under pressure. The two worst performing sectors year to date, Healthcare and Financials have finally come to life. Two recent picks, Celgene and Eagle Pharma have performed well and should continue to outperform. The whole drug sector should start to outperform due to cheap valuations and investors getting more comfortable with more modest price increases for drugs. Basically, the bad news is priced in. The same can be said for the financial group, the worst performing sector year to date. The financials like higher interest rates which until recently have been out of favor. Going forward if the Fed can raise rates, the financials should start to outperform. One of the worst financial stocks year to date is the banking giant, Wells Fargo. Besides JP Morgan, Wells Fargo was the other large cap bank to come through the financial crisis with top marks. The CEO could do no wrong until now. Following the financial crisis, Wells Fargo used aggressive sales tactics to open up 2 million unauthorized accounts to expand business and meet quotes. Over 5000 employees were implicated, but the real culprit is management and the CEO, John Stumpf.

The CEO and the company are already taking steps to rectify the situation. The banking fines from this scandal only cost the company $185 million, a total that practically amounts to a rounding error on a bank that can generate $5.5 billion in quarterly profits. To be sure, there will be other fines and lawsuits down the road. The biggest hit to Wells Fargo is not monetarily, but more headline and reputational. It will take time for investors to trust Wells Fargo again which provides an attractive entry point to income investors. Wells Fargo is not a growth stock, but a value stock with a very attractive dividend yield of 3.36% which accounts for only 37% of their yearly cash. The stock also trades for just 11 times reduced earnings and less than 10 times 2018 earnings estimates. The attractive dividend and low valuation should provide limited downside and attractive upside in the coming years. One of the largest shareholders, Warren Buffett may get more involved requesting the company to get more shareholder friendly with a further boost to the dividend or a large share buyback.

In the meantime, investors with a long term focus can buy the stock here around $45 a share and collect the 3.3% dividend yield and wait for the fundamentals to improve once again pushing the stock back to $50 a share where it stood just one month ago. A couple analysts this week, one at FBR and the other at Deutsche Bank, maintained 12-month price targets of $50 price targets. Not a home run by any means, but for income investors, a 3.3% dividend with 11% capital appreciation potential over a 1 year or two-year time horizon is a lot better than any CD or short term corporate bond.