First Horizon: Solid Q3 Results Leave Shares With More Upside Potential

seekingalpha10-19

First Horizon shares gained 66% over the past year, driven by strong recovery post-2023 banking crisis and solid financial performance.Q3 earnings beat expectations at$0.42 per share, driven by a 6% ...

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Nirian/E+ via Getty Images Shares of First Horizon (NYSE:FHN) have been a strong performer over the past year, gaining over 66% as the company has recovered strongly from the early 2023 regional banking crisis. I last covered First Horizon in December of last year, rating shares a “buy,” given its solid capital position. Since then, the stock has returned a solid 33%, outpacing the market’s 27% gain. With new financials, now is a good time to revisit FHN. I remain bullish.   Seeking Alpha In the company’s third quarter, First Horizon earned $0.42, beating consensus by $0.04 as revenue rose by 6% from last year. The bank has seen some margin pressure as it has turned to higher cost deposits to fund growth, though I expect this pressure to fade over the next two quarters. Importantly, after a one-time item last year, FHN’s underwriting has returned to its strong standard, resulting in encouraging credit performance. Non-interest income jumped to $200 million, up $27 million from last year and $14 million from Q2. Its fixed income origination team performed particularly well as investors sought to lock in rates ahead of anticipated Fed easing. FHN earned $593k in daily fixed income revenue, up 22% from last year, and this pace will likely moderate at some point. Wealth management units rose 18% from last year to $39 million, and given ongoing market strength, I anticipate further gains here. Looking next at interest rate trends, net interest income declined by $2 million sequentially to $631 million, though it was still up 4% from last year. That year-over-year growth largely reflects growth in the business and the movement away from higher cost wholesale funding. FHN’s net interest margin (NIM) compressed 7bps to 3.31%, still 14bps higher than last year, given an improved funding mix. Disappointingly, even as the Fed reduced interest rates, its deposit costs rose. FHN paid 3.44% on interest-bearing deposit, up 14bps from Q2. Given a lower average fed funds rate, I would like to see this flat or down slightly.   First Horizon As you can see below, First Horizon increased the use of brokered deposits, which are more expensive than client deposits. This $800 million growth was a 5bp headwind to NIM. Overall, period-end deposits did rise by $1.8 billion sequentially. I was encouraged to see that noninterest-bearing deposits are essentially flat, and client deposit growth has been strong.   First Horizon $1 billion of brokered CDs mature in Q4, and this should be an opportunity to reset some deposit costs 50+bps lower, essential to protecting NIM. More meaningfully, FHN has $18 billion of deposits with promotional pricing that are eligible for reductions in Q4. FHN will need to balance rate cuts against client retention. So far, retention has been strong at 91%. With over 35% of its core deposit base ending promotional pricing, there should be a path to meaningfully lower funding costs and expand NIM at least by Q1 2025. On the asset side, loans declined by $300 million sequentially due to the sale of a health care lending portfolio of $340 million. Its commercial real estate exposure was broadly stable, and I expect to see some declines next year as many outstanding loans have been fully funded, and new originations are muted.   First Horizon Even with the Fed rate cut, loan yields rose by 3bps to 6.37%, which reflects higher origination yields. Still, we are likely to see declines in coming quarters because 56% of loans are floating rate. Offsetting this, First Horizon has $4 billion of fixed rate loans at 4.6% and $1 billion of securities at 2.2% that mature next year. Reinvesting these proceeds at higher market yields should help to dampen the impact of lower yields on floating assets. Overall, FHN has a $9.4 billion securities portfolio at a 2.58% yield, which means FHN has a $1 billion unrealized loss given higher yields today. With a ~4.6 year duration, we should see this unrealized loss decline over time. Because FHN has just $83 billion in assets, it also does not need to phase these losses into its capital calculations. Over 10% of the portfolio matures over the next year, so we should see this portfolio yield gradually rise. Turning to credit quality, FHN provisioned $35 million for credit losses, down $20 million from Q2 and down from $110 million last year. Last year, it took a $72 million loss on one loan where it has sought legal recourse. My view then was that this was truly a one-time slip-up, given FHN’s history of robust underwriting. With another year of data, that appears to be the case. FHN took just 0.15% charge-offs in Q3, down from 22bps in Q2. As a result, management took an $11 million reserve build, down from $21 million last quarter. This includes $8 million of reserves from Hurricane Helene. While it is not clear there will be any losses, management has chosen to be proactive, consistent with their conservative lending practices, in my view. Just given the aging of the economic cycle, FHN is still seeing an increase in NPLs relative to last year, though as you can see the pace slowed considerably at just $4 million in Q3. Given reserve builds over the past year, it now has a 1.44% allowances to loan ratio. At 1.5x, coverage of NPLs is a bit lower than I like to see, though given limited unsecured consumer exposure, it can run with lower reserves. Still, I expect to see modest ongoing reserve builds.   First Horizon Partly offsetting lower reserves, FHN is running with elevated capital levels. It has an 11.2% common equity tier 1 (CET1) capital ratio, above its 11% near-term target. This 11% target is also above its long-term capital needs, likely in the 10-10.5% range, recognizing the macroeconomic uncertainty as well as unrealized losses on securities that are excluded from its capital calculations. Given its strong capital position, FHN has executed $441 million of buybacks this year in its $650 million program. That included $75 million in Q3. Thanks to these repurchases, its share count is down 4% over the past year. The remaining authorization will cover Q4 repurchases, and the board will revisit the buyback in early 2025. If the economic outlook remains resilient, management could lower its capital target, freeing up more buyback capacity. Looking to Q4, we should see NII grow as it benefits from deposit repricing, and management expects similar credit trends as seen in Q3. One limiting factor for buyback growth will be loan growth, and FHN is likely to balance capital needed to support the business with shareholder returns. Additionally with $83 billion of assets, FHN will eventually (likely in 2027) hit the $100 billion mark that leads to more regulatory oversight. There are likely to be ongoing expenses as FHN prepares. Essentially, I expect FHN to run itself like a $100 billion institution as it gets past $90 billion, even though it legally does not have to in order to ensure a smooth transition.   First Horizon  FHN continues to deliver strong results, and I expect to see NIM stabilize by Q1 2025, as long as the Fed is done with 50bp rate cuts at single meetings, as I expect is the case. I also do not expect to see further credit deterioration beyond current levels of provisions. As such, FHN has about $1.60 in go forward earnings power. With shares just below 11x earnings, I view the bank as attractive given its underlying growth and excess capital position. I can see shares moving past 12x earnings like large peers or past $19. Combined with its dividend, that provides over 10% upside. As such, I remain a buy on FHN.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.1","shortVersion":"4.29.1","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2476934759"}