Jacob Sonenshine
Regional bank stocks rallied hard after Donald Trump's victory, then gave back some of those gains. It's a buying opportunity.
The SPDR S&P Regional Banking exchange-traded fund gained about 13% Wednesday, after Trump was named the winner. Now, at about $65, it's down about 3% from the peak of the rally.
This presents an opportunity to buy the dip. Lenders will make more loans as the economy continues to grow, given Trump's fiscal spending, much of which would come in the form of individual tax-rate cuts. He wants to relax banking regulations, which could free up more capital within the banking system for loans. Trump also wants the tax rate for companies that produce goods at home (banks are seen as domestic producers) to drop to 15% from 21%. These policies are likely to pass in Congress, which will be controlled by Republicans in both chambers.
The changes would substantially lift earnings per share from current expectations, because banks probably wouldn't have to increase costs as fast as their loan demand rises, so their margins would expand. Higher profits would also allow them to buy back more stock.
As markets see the policies coming through, "there is still room for valuation improvement across the group," write bank analysts at Citi.
Valuations do still look cheap enough, in a broader market that has become very expensive. The bank ETF's current multiple of aggregate earnings per share that analysts expect the companies to produce over the coming 12 months is 13.7 times. That's a 38% discount to the S&P 500's just over 22 times, a historically large gap. In the past decade, these banks have averaged a slimmer 29% discount, according to our calculations of FactSet data.
Plus, the multiple may appear to be 13.7 times, but it might actually be lower and more attractive than that. Analysts won't lift earnings estimates until new policies start to roll in, and they see clear evidence that banks' earnings will benefit, which means that forward earnings will probably be larger than the currently published forecasts.
Earnings, first of all, would probably grow even without a red wave. In a growing economy, banks usually see rising loan demand. Analysts expect aggregate revenue for banks in the fund to grow at just over 7% annually for the next two years, according to FactSet. Employee pay hasn't been rising that quickly, which is helping analysts project higher margins during this period. Expected earnings-per-share growth is 18%.
Add in new policies and the earnings look even more exciting. A full drop in the tax rate to Trump's proposal would lift earnings by just under 8%, and that's before accounting for the tailwinds for loan growth. The point is that, if earnings end up growing more than 20% annually over the next couple of years, these stocks would have to move higher.
The best way to buy exposure to regional banks, the Citi analysts emphasize, is to buy the cheapest ones. Investors should still be prudent, and the rally has already brought the bank ETF to a point where buyers tend to go away. It hasn't reached above the high 60s since early 2022, but it will in time, as earnings grow. For the sake of taking less risk, however, Citi recommends going for the cheapest names.
Those still have room to rise, as their multiples can easily move higher. "The valuation spread between the haves and have-nots is relatively wide," Citi writes. "We continue to see value in our other Buy-rated names."
Those include Citizens Financial, Ally Financial, Capital One Financial, Huntington Bancshares, and M&T Bancorp, all of which trade at price/earnings ratios lower than the broader group.
Lend some confidence to these stocks.
Write to Jacob Sonenshine at jacob.sonenshine@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
November 08, 2024 14:36 ET (19:36 GMT)
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