Jefferies Even More Bullish on Top Banks
Currently, bank fundamentals are stuck in a tight spot, considering the still-slow economy and policy uncertainty weighing on loan growth, as well as higher rates impacting mortgage origination volumes. However there is a positive side, higher rates are helping net interest margins, credit quality remains excellent and capital return is expected to be higher again in this year’s Comprehensive Capital Analysis and Review (CCAR) stress test process.
As a result, one key analyst thinks that first-quarter results will not be mind-blowing, but instead believes estimates are still biased upward as more rate hikes get built in, deposit betas remain low and credit loss/provision levels prove lower-for-longer. After considering the current climate for banking stocks, Jefferies picked out a couple of its top ideas going forward.
The firm put together a couple cases based on bull and bear scenarios. The bear case only includes one more hike through the end of 2018, on top of the March 2017 hike. The bull case goes to a “4 and 4” rate hike scenario, inclusive of the March hike, a modest tax cut and some adds from growth and costs. The base case uses a “3 and 2” rates back-drop, inclusive of the March hike. Note that the firm does not include any potential tax rate cut benefits in these numbers.
Jefferies detailed in its report:
While a lot of good news is in the stocks, we believe rising EPS estimates can keep investors satiated, albeit with volatility expected from the daily news flow coming from D.C. For our valuation framework, we are now using a 15% bear, 60% base, and 25% bull case weighting, compared with 20%/40%/40% back in November. This depicts a truer absolute downside case for the bear case and a rightful lower probability for the “all-singing, all-dancing” bullish outcome (but one that is still on the table). In all, this generates average potential total returns in the low double-digits, mostly reflective of expected EPS growth in ’18 and with modest downward reversion of P/E multiples.
The S&P 500 is currently trading at roughly 16 times the Jefferies 2018 EPS targets. Looking at the bank stocks, large regional banks average about 85% to 90% of the market multiple, with smid-cap regionals closer to 100% to 105% (a typical premium due to less regulation, faster growth, and greater takeout potential). Universal banks have their targets around 75% to 80%, which is toward the higher-end of historical trends but remains well below the larger regionals due to greater regulatory burdens and typically slower organic growth rates.
Jefferies relayed its top picks in the sector as follows:
- SunTrust Banks Inc. (NYSE: STI) was upgraded to a Buy rating from Hold, and its price target was raised to $63 from $58 (versus a $55.30 prior close).
- Huntington Bancshares Inc. (NASDAQ: HBAN) was upgraded to a Buy rating from Hold, and its price target was raised to $16 from $14 (versus a $13.39 close).
- Bank of America Corp. (NYSE: BAC) has a Buy rating and its price target was raised to $28 from $24 (versus a $23.59 close).
- KeyCorp (NYSE: KEY) has a Buy rating and its price target was raised to $21 from $20 (versus a $17.78 close).
- Comerica Inc. (NYSE: CMA) has a Buy rating but its price target was lowered to $81 from $87 (versus a $68.58 close).
- F.N.B Corp. (NYSE: FNB) has a Buy rating and its price target was raised to $18 from $17 (versus a $14.87 close).
- Western Alliance Bancorp. (NYSE: WAL) has a Buy rating and its price target was raised to $58 from $53 (versus a $49.09 close).
- Sterling Bancorp (NYSE: STL) has a Buy rating with a $28 price target.
- SVB Financial Group (NASDAQ: SIVB) has a Buy rating and its price target was raised to $216 from $182 (versus a $186.09 close).