There’s a lot of anguish lately that the closure of IndyMac Bancorp is only the harbinger of more bank closings or, among the bigger banks, the beginning of a real decline in bank stock prices. Many of begun to ask whether its time to withdraw money or sell stock of a bank in trouble or is this a buying opportunity for bank stocks that are paying the price for the imprudence of their wayward industry peers? Amongst all this naval gazing and hand-twisting, Wells Fargo, one of Buffet’s favorite banks, reported record revenue (albeit lower earnings per share) and hiked it dividend 10% yesterday, cementing its status as a true blue-chip stock.

What are we make of all of this? Is Wells Fargo good, lucky or crazy? What is Wells Fargo doing right that makes it a “safe” bank stock (safe being a relative term now a days).

Wells Fargo, in the banking world, is known as a retail bank. It does very well in what you and I equate with banking: taking our deposits and keeping our money safe.  Most big banks like to chase the big profit work such as wholesale banking (in plain English, big multi-billion dollar laons), wealth management, trading with the banks money,  mutual fund sales, underwriting IPO’s etc. But with big profit comes big risk. TD went into a tail-spin about 15 years ago betting on telecom and lending foolishly on it. How did it get back on its feet? It focused on retaling banking.

Retailing bank is lower margin business but it provides a great cushion if the big-profit traders in the bank make bad trades, too many loans don’t get paid back, commercial paper is worthless- in other words, everything that is happening now. There are many reasons why Wells Fargo increased its dividend but here is one key one: its core deposits (deposits which are not one-time or extraordinary deposits) increased 6% from last year in very trying times in Wells Fargo’s home territory (the bank rules the western U.S. and California is getting killed right now, making Wells Fargo’s preformance all the more astonishing).  Core deposits increased from $300 billion for the quarter ending June 30, 2007 to $318 billion in June 30, 2008.

In other words, no matter what, deposit with and purchase the stock of banks who are great at attracting money into their safe. This isn’t hard research to do; your friends can tell you who they bank with (some primary research) and core deposits are regularly reported in financial statements.  Remember cash covers up a lot of mistakes a bank can make.

Perhaps I am simplfying this analysis but look at it this way- if you consistently brought home more money, short of an absolutely devastating financial crisis, you should be able to weather most storms. Same thing with a bank. As long as it increases its deposit base quarter or quarter, it should be safer than its counterpart that has a steady or declining deposit base. Follow the money- the more deposits a bank can attract, the safer it is. You can always buy yourself out of trouble if you continue to have a lot of money on hand.

A good local example of the follow the money rule in action (in reverse) would be BMO (owners of Harris Bank in Chicago)- once a banking titan, symbolized by a headquarters which required 600 tonnes of white marble on each floor (like the Aon Center in Chicago, they probably need to replace the marble with something more durable). It lost its edge in retail banking- it tried to build up their i-banking division.  As a result, it became less aggressive than their peers trying to open up new bank accounts (think about the last time you saw a BMO ad on tv or a new BMO branch which was first a new subdivision?) and people deposited their money elsewhere.  BMO, today, is arguably one of the weaker sisters of the big 5 Canadian banks.

It is very much a KISS analysis but banks live and die on deposits. So find the bank that keeps the most money and deposit and invest in them.

Having said all of that, I am sitting it out on banks until we have a consistent and sustained trend of decline or advances. Right now, bank stocks are swinging too widely and its hard to discern any patterns.