3 best financial stocks to buy now

These companies are among our favorites in the sector for the second half.

By InvestorPlace Jul 12, 2013 10:29AM

Portfolio Account statement © Alamy Creativity, AlamyBy Dan Burrows


Financial stocks have been fantastic bets throughout the recovery, but some look to have more room to run than others.


Sluggish economic growth and the Federal Reserve's road map to winding down its bond-buying program around this time next year mean the easy money for the sector may have already been made.


And it has been easy money, indeed. The financial sector is outperforming the broader market by a wide margin so far in 2013 and absolutely clobbering it over the past 52 weeks.


The Financial SPDR ETF (XLF) is up 23% year-to-date, beating the S&P 500 ($INX) by 6 percentage points. Over the past year, the XLF is outperforming the broader market by a whopping 16 percentage points.


Of course, not all components of the XLF are pulling their weight -- and past performance is no guarantee of future results anyway. With JPMorgan Chase (JPM) and Wells Fargo (WFC) kicking off earnings season for financial stocks Friday, we thought it a good time to look at some of the best bets for second-half outperformance among stocks in the sector.


Keefe, Bruyette & Woods, the big-shot investment bank specializing in the financial sector, recently shared with clients its best ideas for the second half of 2013. Here are three of our favorites:


JPMorgan Chase

OK, it's no secret that the nation's biggest bank by assets is also considered the best-in-breed (the London Whale trading fiasco notwithstanding), but JPM's 25% gain has been killing it in 2013 -- and the stock looks to have plenty more upside ahead.


For one thing, JPM's stock is cheap, writes KBW analyst Chris Mutascio, trading at the lowest price-to-earnings multiple in its peer group. Management also doesn't get enough credit for how much it's slashing costs. Year-over-year, JPM's expense reductions are among the highest of all large-cap bank competitors.


Perhaps most important, JPM has the best combination of excess liquidity and short maturities schedules to take advantage of the suddenly much steeper yield curve, where long-terms rates are spiking but short-term rates stay put. With quantitative easing now on notice, that should remain a tailwind for some time.


Aflac

The supplemental insurance company derives more than 75% of its total revenue from Japan, and volatility in the yen has contributed to some share-price underperformance this year. Aflac's (AFL) stock is lagging the S&P 500 by about 5 percentage points in 2013, but it's set to accelerate in the second half.


The company's realized losses have declined at the same time that its outlook has improved, writes KBW analyst Jeffrey Schuman. Margins are likewise expanding and cash-flow is accelerating. Oh, and it's putting that cash to some shareholder-friendly uses, like buying back $600 million in stock this year and anywhere from $600 million to $900 million in 2014.


Reduced investment risk, rising margins and cash flows, and share buybacks should get Aflac back to double-digit earnings-per-share growth, Schuman reckons -- and that will boost the stock. Yes, it's lagged in 2013, but over the past 52 weeks it's still up more than 40%.


IntercontinentalExchange

Even though it felt almost inevitable, it was still shocking when 12-year-old upstart IntercontinentalExchange (ICE) struck a deal to buy NYSE Euronext (NYX) -- parent of the 220-year-old New York Stock Exchange -- late last year. The deal hasn't even closed and it's already shot ICE shares out of a cannon in 2013, up 44% for the year-to-date.


We can expect more outperformance from ICE ahead. Even before the NYX deal, ICE was a major player in the highly lucrative commodities futures exchange business. It also happens to be an innovative firm with plenty of new products providing potential for incremental growth, notes KBW analyst Niamh Alexander.


Now, throw NYX into the mix, and Alexander sees the acquisition adding more than 20% to next year's earning per share -- with more double-digit profit growth to come.


As of this writing, Dan Burrows didn't hold positions in any of the aforementioned securities.


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