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3 reasons to give Commonwealth Bank of Australia the wide berth

Commonwealth Bank of Australia (ASX: CBA) shares are once again trading above $81.00 after briefly dipping below the $80 level as the stock traded ex-dividend. Although the shares are still offering a very lucrative dividend, which equates to a grossed up 7.1% yield, there are three major reasons why investors should look to spend their money elsewhere.

  1. Lofty Valuation. I have been concerned about Commonwealth Bank’s valuation for well over 12 months now. I’m glad that shareholders have recognised solid gains even in that time (the stock is up 17% in that time including dividends), but I fear the good times could come to an abrupt end sooner rather than later. Already the stock trades on a P/E ratio of 15.3x and a price-book ratio of 2.7x, indicating investors expect earnings to continue growing strongly. As you will see in the next point, I am not so confident.
  2. Earnings pressure. The enormous profits of the big four banks have been bolstered by low interest rates and record low bad debt charges. Unfortunately, the low interest rate environment has resulted in aggressive competition throughout the sector which is impacting net interest margins. Further, we saw bad debt charges rise in the bank’s latest quarter which could start to have an effect on overall earnings in the coming periods.
  3. Property concerns. Recent comments from one of the nation’s leading economic experts, Jeremy Lawson, suggest Australia’s property market could be anywhere between 20% and 30% overpriced. A correction could have serious implications on the Australian economy and the S&P/ASX 200 (INDEXASX: XJO) index, and in particular Commonwealth Bank, which is the most exposed bank to Australia’s housing sector.

A much better bet than the banks

Commonwealth Bank has delivered incredible returns in recent years, but investors need to stop focusing on the past and recognise that this stock may not be the greatest bet moving forward.

A stock I am much more bullish on has recently reported its seventh consecutive year of growth and looks set for many more years of market-beating returns. Don't miss what could be the 'story stock' of 2014! Get The Motley Fool's #1 pick now in our newly updated investment report. It's yours FREE. Simply click here for your copy of "The Motley Fool's Top Stock for 2014."

Motley Fool contributor Ryan Newman does not own shares in any of the companies mentioned.

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