We're Going Counter-Trend: Buy Banks, Trim Tech

5 Nov 2021

The broader markets are pushing to new highs once again, but one sector that has sat out for the past few days is the financials sector. Wednesday was an interest-rate sensitivity bank over investment bank type of day, with stocks like Wells Fargo and Bank of America trading higher at the expense of Morgan Stanley and Goldman Sachs. But yesterday, the entire group is down in response to the decline in rates. Also in response to decline in rates, technology stocks have been on a roar (traditionally tech stocks are thought to be hurt by rise in interest rates - although we have some rebuttal to this notion, will clarify later on).

We think the recent pullback in the group represents a good opportunity to nibble on shares of Morgan Stanley at roughly 7% off its recent high, initiate JPMorgan (JPM).

Morgan Stanley (MS)

Shortly after the opening bell, we will buy Morgan Stanley (MS) at roughly $101, increase our position from 4.2% to 5%. 

In addition to strong levels of investment banking activity, we like Morgan Stanley because CEO James Gorman has transformed the bank’s business model towards fee-based and recurring revenue streams through the acquisitions of E-Trade and Eaton Vance. Investors like fee-based and recurring revenue streams because they are predictable. Wall Street puts a high value on recurring revenues because they are easier to forecast with greater certainty. As fee-based and recurring revenue streams become the majority of Morgan Stanley’s total revenues, we think the market will reward MS for this transformation by applying a higher price-to-earnings multiple on the stock. 

In addition to positive business trends, we like how Morgan Stanley consistently returns a significant amount of capital to shareholders. The bank bought back roughly $3.6 billion worth of shares in the third quarter as part of their $12 billion authorization. On top of share repurchases, MS pays its shareholders a decent-sized dividend too. The yield at the current stock price is roughly 2.83%, which compares favorably to the 10-Year Treasury rate and compensates us as we patiently wait for the business integrations to pay off.

JP Morgan (JPM)

We do not have enough time to write in detail about JPM, but we promise an initiation post will be followed over the weekend. We would like to get a starter position in a best-of-breed money-center bank, to expose ourselves to the rise of interest rates next year. Given shares of JPM are not so much off all-time high, our starter position will be about 1% portfolio, buying shares at an approximate price of 168.75$ to 169.75$. We want to ultimately work this position to 3%

How is JPM different from the financials that we own right now? JPM is a best-of-breed money center bank, sensitive to interest rates. Well-run. Wells Fargo (WFC) is also a money-center bank, but not best-of-breed, but rather a turn-around story which is subjected to hiccups along the way. Morgan Stanley (MS) is on the investment/ wealth management side, which is less sensitive to rates. PayPal is financial technology, really does not follow the financial sector as a whole (ultimately we'll separate this name from the financial sector that we categorize in our portfolio).

Lastly, as the title suggest, we would want to trim tech sector here. However, we've already done so. We're sitting on so much cash right now that we're pretty much done with trimming.