We can’t escape the hoopla surrounding the alleged recovery of banks like Citigroup (NYSE:C), Wells Fargo (NYSE:WFC), Goldman Sachs (NYSE:GS), JPMorgan Chase (NYSE:JPM) and Bank of America (NYSE:BAC), but the question must be asked if these are really the best banks to invest in.
If you’ve ever studied the investment style and philosophy of Warren Buffett, you’ll know one of the criteria for investing in a company is to understand that company.
In the case of large banks, the problem is they’re so large, it’s almost impossible to understand the business they’re in, and how each one of them will add to and benefit the company.
What this means is the vast majority of people, unless they have a research staff available, really have no way of understanding a giant bank.
And even if there is a research staff at your disposal, there are assets hidden by the banks which can’t be discovered by research. For example, homes that no longer are being lived and mortgages not being paid, but they aren’t on the books because of not foreclosing on them. So the balance sheets can look much better than they really are. And this is just one of many legal tricks used which make it hard to find out the real condition of a bank.
On the other hand, smaller banks or financial institutions could be a much better investment bet from the standpoint of understanding the business they’re in and getting a handle on their balance sheets.
With smaller banks they normally will allow the failure of a mortgage or bad commercial loans to be displayed on their books upfront, so there’s less possibility of a surprise being discovered later on, as many have with the larger banks.
Keep in mind that some banks have larger market cap than a number of countries are valued at, as far as gross domestic product goes, and so they can be more complicated and complex than an entire country. Look at some nations whose primary revenue comes from raw materials, they are easy to figure out and know where they will stand in the years going forward, assuming little geopolitical problems.
But you could never say that with a large bank, which have numerous streams of income and units they do business from.
The bottom line is giant banks are more like gambling in the sense you simply can’t get a grasp of what they are because of the enormous size of them. It’s easier to figure out some countries because of only a few sources of income than it is these huge banks.
Add to that the ability to use creative accounting or other tactics to make them look stronger than they are, and it should make you think twice before putting a significant amount of money into them.
