One of the biggest stories for the financial sector in 2017 was a rally built on the one-two punch of less-stringent regulation and a broad-based economic boom that would power these cyclical stocks.
And while not all of the much-anticipated reforms materialized, with Dodd-Frank still firmly on the books despite promises of a repeal, other efforts such as the defanging of the Consumer Financial Protection Bureau and the landmark tax-cut legislation indeed delivered.
The result has been a broad rally for the industry; the Financial Select Sector SPDR Fund (XLF) is up 27% in the last 12 months vs. 24% for the broader S&P 500 (.SPX).
Now that much of the legislative and regulatory reforms are behind us, however, some investors are wondering if it's time for banks to cool off. The valuations don't look quite as attractive, and it's safe to say that a lot of the optimism is now priced in.
But while some financial stocks are sure to lose steam, recent earnings indicate there is plenty of headroom for some of the top performers in the industry.
Here are five such highfliers in finance that should do quite well in 2018.
In the middle of last year, Warren Buffett and Berkshire Hathaway (BRK/B) started investing heavily in Synchrony Financial (SYF) last year, with an initial stake worth more than half a billion dollars when first reported in August regulatory filings.
Buffett has long been a fan of financials for the long-term income potential. And while Synchrony isn't quite a household name, the $30 billion company is one of the biggest U.S. credit-card issuers with a robust co-branded store credit-card business through retailers that include Wal-Mart (WMT) and Lowe's (LOW). That's in addition to digital offerings that include some of the highest annual percentage yield, or APY, for online CDs and savings accounts.
This is a great business to be in, because there's low overhead in a branchless business and high margins on store credit cards that typically boast much higher interest rates. Anyone who has been enticed by the upfront discount on a purchase and then gouged with charges after failing to pay off the store card quickly can attest to this.
Recent earnings show this is a company on the upswing, with total deposits jumping 8.5% and net income increasing 8% in the fourth quarter over a year earlier to top Wall Street expectations. Share momentum is great, too, with the stock up an impressive 35% in the last six months — more than double the returns of the broader market.
These are great metrics to see when you're looking for a financial stock to buy, and the blessings of Buffett on top of this are the icing on the cake.
The nation's largest bank by assets, JPMorgan Chase (JPM) is a very popular stock for obvious reasons. But if you think that a big bank like this is overvalued and up against a ceiling, it's worth looking at the charts — because this stock has shown no signs of slowing down.
Shares are up about 27% in the last six months, thanks in large part to continued expansion in deposits and other key operating metrics despite an already mammoth scale. And while interest rates have marched steadily higher at the Federal Reserve, this bank has been slow to pass those rate increases on to customers. That may not sit well with small-time depositors in the Midwest, but it's creating a pretty nice situation for shareholders.
Of course, JPMorgan Chase is a massive financial institution. However its Consumer & Community Banking division is by far its largest arm, booking $12 billion in revenue for the fourth quarter, almost half of its $25.5 billion in managed revenue for the quarter. That allows outperformance of this division to really move the needle, even as other divisions like its investment-banking arm have struggled in recent quarters.
While the 2.0% dividend isn't that grand on a percentage basis after the run, investors can take heart from distributions that have surged from 30 cents to 56 cents a quarter in just five years — and that doesn't count the massive rebound from a mere 5-cent dividend during the worst of the financial crisis.
Throw in a buyback plan of more than $19 billion announced last year, and there's a lot of reasons to trust that Jaime Dimon & Co. will take good care of their shareholders in the coming year.
If you're looking for a more direct way to play a bank that is benefiting from rising rates, then check out Zions Bancorp (ZION). This Utah-based midcap bank is a gold mine of non-interest-bearing assets, with roughly 46% of deposits in things like a standard checking account that does not demand Zions pay the customer dividends.
Again, I'm not going to moralize over whether a bank should share those higher interest rates with regular American families. I'm just here to help you make a buck on Wall Street, and it's very logical that this company will see nice profits as rates rise since it doesn't have to pass ANY of the additional interest income back on to its depositors.
With consumer confidence high and the labor market looking quite healthy, it's also reasonable to expect an uptick in its cyclical consumer-credit operations.
Given that is revenue is forecast to increase 5% and earnings are expected to increase by double that amount in fiscal 2018, things are definitely looking up for the lender. But what sets it apart from other regional banks is an attractive valuation, characterized by a forward price-to-earnings ratio of less than 14 and a price-to-book ratio of only about 1.5. With many financials trading for a premium, it's hard to find another value like this in the sector.
Bank of America
A lot of the drivers for JPMorgan Chase as a megabank are also there for Bank of America (BAC). And Bank of America's stock has been red hot, tacking on about 35% in the last six months to trade around a 52-week high. While some of that rally was fostered by a comparatively low valuation, it doesn't yet look as if Bank of America has run out of runway. It still trades for less than 1.4 times book value, and boasts a forward price-to-earnings ratio of about 11.
Sure, you can argue that the benefits of looser regulation and tax reform are old news. But Bank of America is hardly standing still. For instance, BofA may actually be your best bitcoin stock to buy now — seriously! BofA has the most blockchain patents (or applications for patents) according to reports.
In all seriousness, those patents don't mean a whit to the bottom line, but they are an indicator in Bank of America's push toward high-tech banking in a mobile age. The company pioneered branchless banking thanks to deposits by smartphone and artificial intelligence algorithms to grant loan approval without human intervention, and a commitment to tech like this will surely serve it well in 2018 and beyond.
Innovation and efficiency is at the heart of a profitable bank in 2018, and BofA is doing a great job on those fronts.
I recently highlighted Morgan Stanley (MS) as a pick to play if you want to cash in on the investing fever of this bull market. The arguments are worth revisiting, as the asset manager looks well positioned for a big run in 2018 after an encouraging earnings report.
Investment banks like Morgan Stanley and Goldman Sachs (GS) admittedly saw a bit of trouble last year, but a series of earnings beats that include record results in its wealth management division show things are turning around. Specifically, third-quarter and fourth-quarter earnings both beat in a big way, as trading revenue suffered less than expected and as the firm grew its already impressive wealth management division by double digits.
It's also important to note that because of its business structure, the company shouldered an effective tax rate north of 30% in 2017. So it could get a big boost from the new 21% corporate tax rate enacted at the end of last year. The benefits of a lower tax rate will hit just as the fruits of a $1 billion cost-cutting plan announced in 2016 are starting to take root in financial reports.
All this stacks up to a pretty impressive outlook from a profit perspective. And with shares on the upswing already in 2018 with a roughly 10% gain since Jan. 1, you can expect investors to really take notice of this bank stock in the coming months.
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