Zacks Industry Rank Analysis Highlights: Citigroup, Inc., Goldman Sachs Group, WestAmerica Bancorp, General Electric and American International Group

Zacks.com releases the latest Zacks Industry Rank. Stocks featured in this week’s analysis include Citigroup (NYSE: C), American International Group (NYSE: AIG), General Electric (NYSE: GE), Goldman Sachs Group (NYSE: GS) and WestAmerica Bancorp (Nasdaq: WABC).

Zacks Industry Rank Analysis is written by Charles Rotblut, CFA, Senior Market Analyst for Zacks.com.

This week: Wait to Buy Financial Stocks

After yesterday's rally in the financial stocks, you might be wondering if it's finally time to buy. The short answer is "not yet". The long answer is more complicated.

News of an internal memo from Citigroup's (NYSE: C) CEO, Vikram Pandit, sparked the rally. Pandit proclaimed that the company was both "profitable" so far this year and that it was "the strongest capitalized large U.S. bank".

Adding fuel to the fire was the proposal by Fed Chairman Ben Bernanke to overhaul banking regulations. Traders were also hopeful that a change to mark-to-market rules would be made and the uptick rule would be reinstated.

Financials Are Full of False Hope

Though this sounds like good news, the truth is that we've been there, done that.

Pandit's comments might sound optimistic, but they are really just a broken record.

CEO Alan Schwartz said Bear Stearns would not have any more write-downs 2 months before his firm failed. Lehman Brothers' CEO, Dick Fuld, was defiant until the end. John Thain pounded the desk on Merrill Lynch before being forced into a shotgun merger.

Even the markets are skeptical about Citigroup. Yesterday's 40% jump didn't even push the stock above $1.50, or about the price for a bottle of water. And even with this morning's additional gain, it still costs more to ride the train from my office in downtown Chicago to Wrigley Field than it does to buy a share of C.

Still Waiting On Federal Salvation

The Fed and the Treasury Department continue to evolve their policies. Unfilled key positions at the Treasury Department are certainly not helping, but Bernanke continues to shift his strategy as well.

The reluctance to delve fully into nationalization remains a sticking point, even though U.S. taxpayers are taking a huge risk on C, American International Group (NYSE: AIG) and many other firms.

Mark-to-market accounting is another sticking point, particularly in terms of how to change it. A House Financial Services Subcommittee will discuss the matter on Thursday.

Then there is the uptick rule, which bars traders from short-selling a stock unless the most recent trade is higher than the previous. Some blame the removal of this rule for causing stocks to plunge. As if that rule was responsible for the gross mismanagement of financial firms, the imprudent lending strategies or the willingness of some people to buy homes they couldn't possibly afford.

Capitalism works by punishing those who make mistakes. If a CEO does not want his stock shorted, there is a simple solution - do a better job of running your company.

What's On Those Balance Sheets?

The biggest issue, however, continues to be that banks don't know what is on their balance sheets. A year after the financial firms supposedly threw in everything but the kitchen sink (anybody remember some of the statements made in response to 2007 fourth-quarter earnings?), they still don't know how many kitchen sinks they own.

Credit cards are only adding to the problems. Though not as big a problem as mortgages, the recession will cause credit card default rates to rise. New fees and higher interest rates are only compounding matters.

This is why Financials has one of the worst ranks of any sector. Earnings estimates continue to be cut across the board as brokerage analysts realize over and over again that they have underestimated just how badly banks and other financial firms are struggling. (During the past 4 weeks, 6 full-year profit projections have been cut for every forecast that has been raised.)

Technical Analysis Doesn't Work Either

Perhaps the biggest short-term risk to the financial stocks, however, is that they have become very difficult to trade. Fundamental analysis doesn't work because their balance sheets are a mess and earnings estimates keep getting slashed.

Technical analysis is not helpful either. Financial stocks, particularly banking stocks, are trading off of speculation about how close they are to failing and/or being nationalized. For some stocks, the current share price reflects nothing more than an option call on the company's survival as a stand-alone entity. (This was getting to be the case with General Electric (NYSE: GE) because of problems with its financial arm.)

Even day trading does not work well, given the potential for sharp, intraday reversals.

Suggestions for Investors

If the only thing you did since 2007 was pay attention to the Zacks Rank, you would have avoided the wreckage in the financial sector. In fact, you went a step further and shorted the sector (or individual stocks directly), you would have profited handsomely.

As someone who has been very bearish towards financial stocks, I acknowledge there is a point when attitudes need to change. Though the downside risk for a stock at any point in time is 100% (a stock can always fall to $0), it's difficult to say how much downside is truly left in the financial sector. Those that have been short should consider how much additional profit they think they can really make.

On the other hand, I'm not convinced it is time to buy financial stocks either. Sentiment and shifting policy decisions make it impossible to determine how these stocks will trade from day to day.

Last week, our equity research analysts recommended that investors consider waiting for signs of stabilization in the credit and stock markets. At that point, use dollar cost averaging to build positions in potential winners such as Goldman Sachs Group (NYSE: GS) and WestAmerica Bancorp (Nasdaq: WABC).

Doing so might result in the loss of some upside, but given that downside risks still remain, this strategy could help you sleep at night.

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