Goldman, Citi and JPMorgan: A Trio of Banking Buys

08/04/2020 5:00 am EST


John Buckingham

Principal, Portfolio Manager, and Editor, The Prudent Speculator

John Buckingham is a leading value investor and money manager; in his newsletter, The Prudent Speculator, he updates his outlook on a trio of investment banking firms following their quarterly earnings results.

Goldman Sachs Group (GS) turned in a Q2 that smashed consensus analyst estimates on the back of strong results across several segments, especially in trading. The company outpaced bottom-line forecasts by 58% and revenue estimates by 37%. Adjusted EPS totaled $6.26, versus the consensus number of $3.95.

Although the end results were much better than expected, they were partially offset by relatively higher expenses and provisions for loan losses/asset impairments. Net revenue for the period came in well above forecasts at $13.3 billion, versus expectations of $9.71 billion.

Investment Banking generated record quarterly net revenue of $2.66 billion, including record quarterly net revenue in both Equity and Debt underwriting.

The firm remained ranked #1 worldwide in announced and completed mergers and acquisitions year-to-date and also ranked #1 worldwide in equity and equity-related offerings.

Fixed Income, Currency and Commodities (FICC) generated quarterly net revenue of $4.24 billion, its highest quarterly performance in nine years and equities generated quarterly net revenue of $2.94 billion, its highest quarterly performance in eleven years.

Despite the challenging near-term backdrop and no real idea how long the pandemic or its fallout will last, given strong activity levels, a healthy balance sheet and strategic repositioning, we think GS shares are quite attractive for the long-term.

We would not be surprised to see earnings rebound faster than peers because of the company’s lower interest-rate exposure, though we understand that trading revenue and profits will not continue to be as strong as they have been the last few quarters.

The build out of its traditional banking and investment-management businesses should serve shareholders well in the long run, as currently almost two-thirds of Goldman’s revenue comes from its investment banking and global markets trading business segments.

The ultimate goal of Goldman’s evolution is to change the trading and deal-making titan into a more well-rounded financial firm with more stable consumer and commercial businesses. That said, we realize that it may take a few years for the efforts to begin to be truly rewarded by investors. Our Target Price for GS now stands at $273.

Shares of JPMorgan Chase (JPM) also reported a solid Q2. We must admit that we could never predicted that in a quarter that JPM took provisions of $10.5 billion, that it could also produce a 9% return on common equity.

We believe management has been wisely dutiful about building credit reserves, which could mean far less need in the second half of the year.

For Q2, JPM reported adjusted EPS of $1.38, some 37% above analyst expectations. Despite the COVID-19 headwinds, the bank built its CET1 ratio to 12.4%, materially widening its excess capital.

Barring any industry-wide Fed action against dividends or a far worse economic environment, JPMorgan’s capital generation capacity seemingly protects the dividend at current levels, on both the capital test and the new income test.

Even with the uncertainty and brisk near-term operational headwinds, we continue to believe that JPM will not only survive the current crisis but will thrive on the other side, as was the case during the Great Financial Crisis.

The bank maintains a fortress balance sheet and a diverse overall business model, while we think that there is plenty of management bench strength behind Mr. Dimon, who only recently recovered from emergency heart surgery.

While share buybacks have been frozen, the company continues to pay a quarterly dividend of $0.90, with the yield now residing at 3.7%. Our target price for JPM is $142.

Like most of the major U.S. banks, diversified financial giant Citigroup (C) turned in a stronger-than-expected Q2, supported by a robust performance in trading. Adjusted EPS for the period came in at $0.50, more than 55% higher than the consensus expectation of $0.32.

The beat is even more impressive considering that the bank took a $7.9 billion charge for credit provisions. While provisions now stand at $26.4 billion, we believe there will be more build in the next quarter for credit card, transportation, industrial and distressed consumer retail businesses. Looking at the positives, deposits rose 18% during the quarter, and trading and securities services revenue was up 68%.

Further, Investment Banking saw its equity underwriting climb 56% and debt underwriting increase 41%. All considered, given the strong quarterly performance and the attractive valuations (trading at just 70% of tangible book value per share), we were a tad stunned to see shares fall almost 5% last week.

While the near-term uncertainty will continue to weigh, we think C shares are quite attractive for those with multi-year time horizons. A longer-term return to improving operational execution and business lines in faster growth markets around the globe (vs. its U.S. business) will be quite beneficial for shareholders.

Using our longer-term lens, we still like that Citigroup has good leverage towards the U.S. economy, while also having the potential to show outsize benefits versus its peers from growth in Asia, Latin America and other emerging economies.

Our target price for Citigroup now stands at $95. True, share repurchases have been halted, but we believe the cash dividend is secure. The yield is a hefty 4.1%.

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