CBA, ANZ, NAB or Westpac Banking Corp: Which bank should you buy?

They dominate credit markets and pay great dividends but are they worth it?

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For Australian investors, the big 4 banks have proven to be great long-term investments. With the exception of National Australia Bank Ltd (ASX: NAB), whose share price appreciated only 55%, all of the big banks’ share prices have more than doubled the 75% return of S&P/ASX 200 (ASX: XJO) (^AXJO) since 2000. That’s even before we account for their juicy fully franked dividends!

It’s fair to say, investors who purchase some of the big banks’ 9.7 billion shares on offer today are buying part of quality Australian businesses. On that basis, it’s a fair assumption to think the good times can continue.

Despite a GFC, dotcom bubble and many other crises over the past 21 years, the Australian economy has prospered. Thanks to our relatively conservative governments, a mining boom and a housing boom, the big banks have been able to boost market shares across some of the most lucrative financial products such as mortgages, credit cards and business banking.

Just in the past year the big banks’ share of mortgages has grown from 81% to 84% as Australia and New Zealand Banking Group (ASX: ANZ) and NAB sort to capitalise on the low interest rate environment and challenge both Commonwealth Bank of Australia (ASX: CBA) and Westpac Banking Corporation who, combined, control 48.5% of the market.

So why do so many analysts believe the banks are a risky investment?

As noted above, the banks’ share prices have risen strongly in the past five years, CBA and ANZ are up 133% and 112% respectively. In that time however sales per share have risen only 44% and 27%. As a result, there’s a large contingency of analysts who feel bank share prices have got ahead of their fundamental valuations.

However you don’t have be an analyst to see it. A simple PEG ratio paints a bleak picture of their current valuations, relative to forecast earnings growth. Done correctly, a PEG ratio of 1 indicates fair value while greater than 1 indicates possible overvaluation. Westpac shares currently change hands on a PEG ratio of 2.63! Of course, this is a crude valuation which cannot be used in itself.

With prominent investment banks and brokers such as Credit Suisse forecasting the banks to average an earnings per share growth rate of 2% in 2015 and 3% in 2016, you’ve got to ask yourself whether it’s worth buying in while their share prices sit near all-time highs.

A better buy than the BIG banks

ANZ is my pick of the big banks because its Asian strategy is beginning to gain traction and starting to contribute meaningful amounts of new income to its top line. But it’s still too expensive for my liking. Westpac and CBA are significantly overvalued. The increased competition from NAB and ANZ as well as mortgage brokers and regional lenders is beginning to take its toll on margins and market share.

Obviously, if you’re long-term shareholder you may be content with the banks’ forecast fully franked dividends and modest growth. However, if I had $5,000 to invest in an Australian stock today, I wouldn’t buy any of the big banks.

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Motley Fool Contributor Owen Raszkiewicz does not have a financial interest in any of the mentioned companies. 

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