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Are Commonwealth Bank shares worth a premium?

The Commonwealth Bank of Australia (ASX: CBA) share price has taken a big hit over the last week, dropping from $83.40 down to the $79.27 price they are currently trading at today. The revival of tensions in the US–China trade war combined with a less-than-impressive set of numbers in its full-year results for FY19 have been major contributors to this drop.

But CBA shares still trade at a noticeable premium to its ‘Big Four’ banking brothers: Westpac Banking Corp (ASX: WBC), National Australia Bank Ltd (ASX: NAB) and Australia and New Zealand Banking Group (ASX: ANZ). If we take the most basic measure of valuation – the price-to-earnings (P/E) ratio – CBA sits at 15.84 on today’s prices. Compare this with NAB at 13.37, Westpac at 12.26 and ANZ at 11.91 and this premium is obvious. Also worth mentioning is NAB’s recent rally on the back of a well-received CEO appointment, which has boosted its P/E ratio substantially.

Why the premium?

So why are CBA shares being gifted a premium by the market? Well, it’s not because of the dividend – CBA shares have a current yield (on today’s prices) of 5.42% (or 7.73% grossed- up), nothing to turn your nose up at. But CBA offers the lowest yield of any of the ‘Big Four’ – Westpac is even doling out 6.68% (9.54% grossed-up) on current prices.

According to the Australian Financial Review (AFR), the Commonwealth Bank has a larger market share in virtually every product it sells than it did a decade ago. Home loan market share is sitting at 24.4% (up from 21% in 2009), credit cards are at 27% (up from 19%) and business lending has grown from 13.6% to 16.6%.

This indicates that Commonwealth Bank is leveraging its branding and dominance in a very effective manner. Australia’s banking sector is a very competitive landscape and CBA’s continued (and increasing) dominance is a sign of a ‘wide economic moat’ – as Warren Buffett would put it.

Foolish takeaway

Despite CBA’s disappointing profit numbers for FY19, a longer-term view indicates that CBA is worth the premium the market is placing on its shares. If you’re after an ASX banking stock to add to your portfolio, CBA is probably a great place to start looking.

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Motley Fool contributor Sebastian Bowen owns shares of National Australia Bank Limited. The Motley Fool Australia owns shares of National Australia Bank Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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