Atypically low credit costs will likely provide a strong boost to profits at many of the nation's largest banks again this year. But now analysts are trying to gauge how much ground the bank stocks will give back once these costs return to normal.
At the 50 biggest banks the median gain in earnings due to low credit costs could be 6%, with Shawmut National Corp. enjoying the biggest advantage at 19%, according to Keefe, Bruyette & Woods Inc., New York.
Moderate credit expenses, mostly in the form of stable to falling loan- loss provisions and foreclosed property costs, have helped magnify banks' results for the past three years.
Low credit costs are, of course, good news for bank stock investors. But they can obscure what analysts refer to as a bank's "normalized earnings power" and the essential value of its stock.
Notably, just one institution in the top 50, UJB Financial Corp. of Princeton, N.J., would earn more than current Wall Street estimates this year if banks' credit expenses were running at routine levels.
Besides Shawmut, Keefe found, banks whose estimated 1995 results would face the sharpest downward adjustments under normalized costs include Bank of Boston Corp., NationsBank Corp., PNC Bank Corp., Bancorp Hawaii, and First Interstate Bancorp.
"In 1995 we will continue to see subnormal credit costs, but as we get into 1996 it will become more of an issue in terms of reported profitability," said Thomas F. Theurkauf Jr. an analyst at Keefe.
"It's not going to happen overnight, but obviously it is going to challenge the earnings-per-share momentum at a lot of banking companies as they move back toward more normal credit costs," he said.
Keefe uses a credit cost ratio to standardize such expenses for individual banks and reveal a bank's "underlying earnings power as opposed to its reported earnings."
The ratio is arrived at by dividing a bank's total loss provision and foreclosure expenses by its outstanding loans and foreclosures.
Keefe found that the average credit cost ratio for the largest 50 banks, according to assets, was a modest 34%, compared with a normal cost ratio of 55%.
Shawmut's credit cost ratio was 19%, versus a typical 50% If standardized, estimated earnings would slip to $2.15 per share from $2.65 currently.
At a recent price of $18.375 per share, its stock traded at an attractive 6.9 price-to-earnings multiple. Adjusting for normal credit costs pushes the multiple up to 8.5.
In contrast, UJB Financial, still recovering from past problems, has a credit cost ratio of 69%, versus a typical 46%. Its adjusted earnings would be 8% higher, at $3.40 per share, than the $3.15 now anticipated this year.
Recently priced at $25.375, UJB shares trades at a credit-cost-adjusted multiple of 7.5, slightly below the multiple they would enjoy in a more normal banking world.
Mr. Theurkauf said he felt that many investors "implicitly make these sorts of adjustments when they value bank stocks, and if they don't they certainly should."
Reflecting the low estate of bank stocks generally, some banks trade at low price-earnings multiples despite requiring little or no modification for lower-than-normal credit costs.
Shares of New York's Citicorp recent traded at only six times Keefe's 1995 earnings estimate of $40.63. It carried the lowest multiple of any major bank whose earnings needed no adjustment. Other such banks include First Chicago Corp., at 6.8 and Union Bank of San Francisco at 7.7.
The most depressed credit-cost-adjusted multiple of any big bank recently belonged to Chase Manhattan Corp. Its earnings require an adjustment of only 2% to an estimated $6.35 per share this year, from $6.50, but its stock traded at just 5.5 times that forecast.