3 Reasons to Avoid WFC and 1 Stock to Buy Instead

Since June 2020, the S&P 500 has delivered a total return of 99.4%. But one standout stock has more than doubled the market - over the past five years, Wells Fargo has surged 216% to $80.90 per share. Its momentum hasn’t stopped as it’s also gained 14.9% in the last six months, beating the S&P by 10.4%.

Is there a buying opportunity in Wells Fargo, or does it present a risk to your portfolio? Get the full stock story straight from our expert analysts, it’s free.

Why Is Wells Fargo Not Exciting?

We’re glad investors have benefited from the price increase, but we're sitting this one out for now. Here are three reasons why there are better opportunities than WFC and a stock we'd rather own.

1. Net Interest Income Points to Soft Demand

Markets consistently prioritize net interest income growth over fee-based revenue, recognizing its superior quality and recurring nature compared to the more unpredictable non-interest income streams.

Wells Fargo’s net interest income has grown at a 5.8% annualized rate over the last four years, worse than the broader bank industry. Its growth was driven by an increase in its net interest margin, which represents how much a bank earns in relation to its outstanding loans, as its loan book shrank throughout that period.

2. Low Net Interest Margin Reveals Weak Loan Book Profitability

Revenue is a fine reference point for banks, but net interest income and margin are better indicators of business quality for banks because they’re balance sheet-driven businesses that leverage their assets to generate profits.

Over the past two years, we can see that Wells Fargo’s net interest margin averaged a weak 2.8%, meaning it must compensate for lower profitability through increased loan originations.

3. High Interest Expenses Increase Risk

Leverage is core to the bank’s business model (loans funded by deposits) and to ensure their stability, regulators require certain levels of capital and liquidity, focusing on a bank’s Tier 1 capital ratio.

Tier 1 capital is the highest-quality capital that a bank holds, consisting primarily of common stock and retained earnings, but also physical gold. It serves as the primary cushion against losses and is the first line of defense in times of financial distress.

This capital is divided by risk-weighted assets to derive the Tier 1 capital ratio. Risk-weighted means that cash and US treasury securities are assigned little risk while unsecured consumer loans and equity investments get much higher risk weights, for example.

New regulation after the 2008 financial crisis requires that all banks must maintain a Tier 1 capital ratio greater than 4.5% On top of this, there are additional buffers based on scale, risk profile, and other regulatory classifications, so that at the end of the day, banks generally must maintain a 7-10% ratio at minimum.

Over the last two years, Wells Fargo has averaged a Tier 1 capital ratio of 12.6%, which is considered unsafe in the event of a black swan or if macro or market conditions suddenly deteriorate. For this reason alone, we will be crossing it off our shopping list.

Final Judgment

Wells Fargo isn’t a terrible business, but it isn’t one of our picks. With its shares topping the market in recent months, the stock trades at 1.5× forward P/B (or $80.90 per share). This valuation tells us it’s a bit of a market darling with a lot of good news priced in - you can find more timely opportunities elsewhere. Let us point you toward one of Charlie Munger’s all-time favorite businesses.

Stocks We Would Buy Instead of Wells Fargo

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