Beaten down financial-sector stocks trigger debate over when to jump in

Financial-sector stocks, in general, have gotten so cheap that some market-watchers are suggesting it's time to jump in at these low levels. Bill Nygren, manager of the $4.85 billion Oakmark Select Fund (OAKLX), recently described the banking sector as “extremely attractive.” “Banks are selling for 80% of book value; utilities are selling for 150% of book,” he said. “Investors have penalized banks for lower returns without rewarding them for how much they have reduced the riskiness of their business model.” According to one report, since the start of the year, 20 of the world's largest banks have seen their market value fall by 25%. The data clearly shows up in the performance of financial-sector mutual funds, as tracked by Morningstar. This year through July 7, financial-sector funds are down an average of 6.72%. The only sector doing worse is health-sector funds, down 7.65% over the same period. The S&P 500 Index is up 3.86% so far this year. While some see the value stacking up in the financial sector, others see more trouble ahead and the risk of what Wall Street calls trying to catch a falling knife. “There are clearly a lot of headwinds for this sector,” said Erik Oja, a banking industry analyst at S&P Global Market Intelligence. The most immediate headwind, he added, is the challenge of pitting the next two quarter's earnings reports up against the relatively strong earnings performance from the second and third quarters of a year ago. “The comparisons will be difficult,” said Mr. Oja, who added that it will likely take until the end of the fourth quarter before the sector can show some year-over-year improvement, and those earnings reports won't be out until mid-January. The conundrum here is that both Mr. Nygren and Mr. Oja could be correct. But if that is the case, now would be too early to jump into the financial sector, because being early on Wall Street is often the same as being wrong. As Doug Cote, chief investment strategist at Voya Financial, sees it, banks will continue to suffer from the Federal Reserve's ultra-dovish monetary policy. “The fact that yields are low and going lower is ominous for banks,” he said. “If yields do not turn around, then banks could feel more pressure.” Ultimately, Mr. Cote believes that “banks are important to own, but not to overweight right now.”