Question

Pls do not handwritten for easy reading
Question:-
Discuss why investors are willing to buy shares in bank when
: i) the ROA of banks is typically quite low, and
ii) banks are subject to many restrictions and are closely monitored by the regulators

Answer 1

i) The assets of a bank are the advances or the loans that it gives. The bank collects interest on these. The net profits are then generated based on the interest and hence it is possible for banks to have a low ROA when there are other costs for the bank such as increasing treasury yields etc. So, the most important parameter in evaluating a bank is the net interest margin (NIM) which is net interest on the earnings assets rather than the ROA. So, a low ROA with a high NIM would be a good bet for buying.

ii) Banks which are subject to many restrictions and being closely monitored would already have had a share price fall. After the correction and with regulator supervision, there is a very low chance of problems and hence the stock could outperform on the upside since all the negativity is already factored in. So, this can also be a good buy for an upside in the long run.