John Buckingham — a leading value oriented money manage and editor of The Prudent Speculator —offers a review of some bargains among financial stocks that fit his strategy of recommending undervalued stocks for patient investors willing to hold their investments for 3 to 5 years.
First quarter earnings reporting season began in earnest last week, and the news thus far have been very good, at least as far as the actual bottom-line figures versus analyst expectations.
The widely-watched GDPNow real-time economic growth projection gauge from the Atlanta Fed is suggesting that Q1 U.S. GDP will expand by 2.8%, much better than the pessimistic forecasts witnessed earlier in the year.
Even better, comments from a couple of Federal Reserve officials last week indicated that the stronger economy is not likely to lead to a near-term shift back toward a tightening of monetary policy.
Of course, even with a rate hike or two from the current 2.25% to 2.5% Fed Funds rate, Jerome Powell & Co. remain quite friendly, with the very low interest rate backdrop bolstering the case for equities.
To be sure, we cannot expect the 2019 rally to continue unabated, but we do like that there remains plenty of nervousness about the advance, whether it is sentiment and fund flows data.
Obviously, we have no crystal ball when it comes to market timing, nor does anyone else for that matter, but we continue to believe that far more money has been lost in trying to avoid downturns, corrections and Bear Markets than has been lost in those events themselves, so we see no reason to alter our long-term investment plan.
Indeed, we simply continue to buy and patiently harvest a broadly diversified portfolio of what we believe to be undervalued stocks, generally of dividing-paying companies, to be held for their long-term appreciation potential.
Diversified financial firm Bank of America (BAC) reported earnings per share of $0.71, versus the $0.66 estimate, for Q1 2019. While revenue of $23.2 billion outpaced analyst expectations, like many in the space, top-line growth was muted, but underlying cost controls and non-interest income streams helped drive favorable bottom-line results.
Overall, expenses were down 4%, and with the average diluted share count down 7%, earnings per share increased 13%. The efficiency ratio came in at 57.5% and return on average assets came in at 1.26%, while return on tangible common equity came in at 16%, with all three representing improvements over last year.
We continue to be fans of Bank of America and see it as one of our core financial holdings, though the dividend yield is presently only 2.0%.
We see numerous long-term opportunities upon which the bank can capitalize, from its large deposit base and consumer lending franchise to its “thundering herd” of Merrill Lynch’s financial advisors and wealth managers. Credit quality remains solid and the stock is trading for just 10.2 times next 12-months estimated EPS. Our Target Price has been bumped up to $41.
Diversified bank Citigroup (C) reported adjusted EPS of $1.87 per share in Q1 (vs. $1.80 est.), with the shares continuing their strong rebound in 2019 (up more than 33%).
Generally in-line revenue for the period was a bit lighter than Q1 2018, but favorable expense control and a lower overall tax rate helped net income growth. Return on tangible common equity reached 11.9%, helping to make management’s goal for a full-year number of 12%+ seem achievable.
Even with improving operational execution, a domestic rising rate environment (over the last couple of years) and faster growth markets around the globe (vs. its U.S. business), we believe that Citi shares trade far from their fair value. C is priced at just 8.8 times NTM adjusted EPS expectations and 90% of book value.
We continue to see a more focused and recapitalized Citigroup as prepared to reward investors over the long-term. We like that the bank has good leverage towards the strong U.S. economy, while also having the potential to show outsized benefits versus its peers from growth in Asia, Latin America and other emerging economies.
Even though the company faces plenty of operational headwinds in different segments of its business, we think the bank is on its way to achieving its low-50s efficiency-ratio target by 2020. Additionally, the current dividend yield now stands at 2.6%, and the bank continues to consistently buy back its stock. Our Target Price for the stock has been hiked to $106.
Bank of NY Mellon (BK) saw its shares fall after reporting Q1 results; the disappointing quarter saw the global financial services company post adjusted earnings of $0.94 per share, versus Street expectations of $0.96, with revenue of $3.9 billion also coming up short of forecasts.
Q1 results highlighted the difficult environment that BK continues to face. Revenue was down 7%, driven by declining fee revenue and net interest income compression. While expense control improved, with expenses down 1%, it couldn’t overcome operational headwinds, as EPS declined 15%, due in large part to the flattening of the yield curve.
While we were disappointed with Q1 and the recent operational performance, we maintain our patience and remain constructive on the fact that management has been adding initiatives to right the ship as BK has struggled with costs, cyclicality of some revenue streams and the overall low interest rate environment.
While any benefits from rising interest rates may not be on the near-term horizon, we think the bank should be able to add clients as smaller asset managers increasingly outsource administrative and other functions amid a complex regulatory environment.
While there is a lot of work yet to do to get Bank of NY Mellon turned around, we continue to like that the company is well capitalized and that it has a management team that is committed to cost containment and driving growth. BK trades at 11.6 times NTM adjusted earnings expectations and yields 2.3%. Our Target Price for BK has been cut to $62.
Investment banking and brokerage firm Goldman Sachs Group (GS) posted adjusted earnings per share of $5.71, versus the consensus analyst estimate of $4.97, in Q1 2019. The bottom-line beat was led by better expense management and a lower tax rate.
Unfortunately, investors were seemingly more concerned about a modest top-line miss as revenue of $8.8 billion came in short of forecasts of $8.97 billion, and some 13% below the year-ago period. Management indicated that lower net revenue in Institutional Client Services and Investing & Lending was primarily to blame.
We continue to be long-term fans of GS and are constructive on the name given the prospects for stronger long-term revenue growth, operating leverage, potential de-regulatory policies and a possible higher earnings multiple than the current forward P/E of 8.4.
We like the strategic changes that Goldman is undertaking, but we won’t be surprised if it takes a few years for its efforts to begin to be truly rewarded by investors. Management is aiming to expand revenue in newer, less capital-intensive business lines, while optimizing expenses and capital in its traditional business lines.
We believe the company’s digital banking platform and expanding emphasis on wealth and asset management should increase long-term returns and drive some underlying stability. Our Target Price is now $287.
