Synchrony Financial: High Valuation Is Risky

seekingalpha11-22

Synchrony Financial's recent price rises have caused it to have a premium valuation amid the overall economic outlook.Rising delinquencies and charge-offs, coupled with declining net interest margins,...

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}\n.meta {color:#5e5c6d;font-size:13px;margin:0 0 .5em; }\na{text-decoration:none; color:#2a4b87;}\n.meta .head { display: inline-block; overflow: hidden}\n.head .h-thumb { width: 30px; height: 30px; margin: 0; padding: 0; border-radius: 50%; float: left;}\n.head .h-content { margin: 0; padding: 0 0 0 9px; float: left;}\n.head .h-name {font-size: 13px; color: #eee; margin: 0;}\n.head .h-time {font-size: 11px; color: #7E829C; margin: 0;line-height: 11px;}\n.small {font-size: 12.5px; display: inline-block; transform: scale(0.9); -webkit-transform: scale(0.9); transform-origin: left; -webkit-transform-origin: left;}\n.smaller {font-size: 12.5px; display: inline-block; transform: scale(0.8); -webkit-transform: scale(0.8); transform-origin: left; -webkit-transform-origin: left;}\n.bt-text {font-size: 12px;margin: 1.5em 0 0 0}\n.bt-text p {margin: 0}\n</style>\n</head>\n<body>\n<div class=\"wrapper\">\n<header>\n<h2 class=\"title\">\nSynchrony Financial: High Valuation Is Risky\n</h2>\n\n<h4 class=\"meta\">\n\n\n2024-11-22 16:50 GMT+8&nbsp;&nbsp;&nbsp;<a href=https://seekingalpha.com/article/4739519-synchrony-financial-high-valuation-is-risky><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>Synchrony Financial's recent price rises have caused it to have a premium valuation amid the overall economic outlook.Rising delinquencies and charge-offs, coupled with declining net interest margins,...</p>\n\n<a href=\"https://seekingalpha.com/article/4739519-synchrony-financial-high-valuation-is-risky\">Source Link</a>\n\n</div>\n\n\n</article>\n</div>\n</body>\n</html>\n","isBrief":false,"type":0,"news_type":1,"symbol":"BK4585","symbol_name":"ETF&股票定投概念","start_time":0,"source_url":"https://seekingalpha.com/article/4739519-synchrony-financial-high-valuation-is-risky","article_id":"2485362562","we_media_id":null,"thumbnails":["https://static.seekingalpha.com/cdn/s3/uploads/getty_images/1355648174/image_1355648174.jpg"],"rights":null,"url":"https://stock-news.laohu8.com/highlight/detail?id=2485362562","pubTimestamp":1732265420,"sourceInfo":{"source_id":"seekingalpha","name":"Seeking Alpha"},"weMediaInfo":null,"summary":"Synchrony 10-Q2024 net profit inflated by the sale of Pets Best brand So how does Synchrony post a 51.3% increase in net profit if their net interest income is only increasing","collect":0,"end_time":0,"defaultTopTitle":"seekingalpha.com","property":[],"viewcount":null,"language":"en","relate_stocks":{"BK4585":"ETF&股票定投概念","BK4561":"索罗斯持仓","BK4166":"消费信贷","LU1861220207.SGD":"Blackrock FinTech A2 SGD-H","LU1668664300.SGD":"Blackrock World Financials A2 SGD-H","BK4588":"碎股","SYF":"Synchrony Financial","LU1861217088.USD":"贝莱德金融科技A2","LU0106831901.USD":"贝莱德世界金融基金A2"},"translate_title":"同步金融：高估值有风险","themeId":null,"isJumpTheme":false,"ttsUrl":null,"symbols_score_info":{"SYF":0.9},"content_text":"Synchrony Financial's recent price rises have caused it to have a premium valuation amid the overall economic outlook.Rising delinquencies and charge-offs, coupled with declining net interest margins, indicate financial stress; growth in net interest income after provisions is only 3%.The current price-to-book value of 1.7 is not supported by Synchrony's 3% net interest income growth.Investors should consider taking profits now, as the downside risk outweighs potential gains; re-evaluate if the price drops or delinquencies improve.   Richard Drury I like investing in financial sector companies because their returns are generally predictable, and the risks are well measured. But I always invest at the right price, and with the economy moving in the right direction. $Synchrony Financial(SYF-B)$ (NYSE:SYF), as a credit card lender highly exposed to the health of the economy, is one such company. The firm's new lending is driven by retail sales at its brand partner stores. Quant ratings are all As Synchrony is up +118% in the last twelve months. I would be happy to invest even after these gains if the price increase was supported by growth. According to Seeking Alpha’s Quant ratings, Synchrony has an A for growth and an A+ for profitability. It is one of the highest rated stocks by the Quant.   Seeking Alpha QuantBut financial results show deterioration But then I looked at the 3Q 2024 financial results. Delinquencies and charge-offs are both up year-on-year (see below). These results are in line with increases seen at other credit card providers, but are still an indication that it is not the best time to invest in a company that provides lending on credit cards. Synchrony 10-QSynchrony 10-QSynchrony 10-QThe net interest margin is also moving in the wrong direction (please see table below). The net interest margin is down quarter-on-quarter and year-on-year. The interest charged on credit cards has increased +30bps or 0.3%, but the interest paid on deposits has increased by +95bp or 0.95%. Sounds small until you say that the interest rates on deposits has gone from 3.73% to 4.68% in the nine months to September for 2023 and 2024 respectively. I would be happy if I had a deposit paying higher interest, but it’s not so good for shareholders. The net interest margin is where a bank makes its money. The net interest margin needs to pay all of the losses on its lending and all of its costs. I can see the impact of the decrease in the net interest margin in the income statement. Synchrony’s total lending increased year-on-year by 8.9%, but interest income is only up 7.1% due to the reduction in the net interest margin. Then, once larger amounts of charge-offs and the share that goes to the retailers are deducted, the net interest income is only up 3.0%. On underlying lending growth of 8.9%! Synchrony 10-Q2024 net profit inflated by the sale of Pets Best brand So how does Synchrony post a 51.3% increase in net profit if their net interest income is only increasing at 3.0%? The sale of its Pets Best brand helped recognize a gain on sale of $1.1 billion. The amount realized over book value for this brand was a good achievement by management, but it cannot be expected to be repeated. I suspect that a large premium was paid for the Pets Best brand because these cards had lower delinquency and charge-off rates. People like to look after their pets. The market is full of optimism about the future now. But I’m not convinced. Goldman Sachs forecasts the economy to grow at 2.5% in 2025. But this is lower than the growth rate in 2024. Inflation is also expected to persist at the current levels, with a forecast for 2025 of 2.4%. The key change next year will be that interest rates are expected to drop to 3.25-3.5% from 4.5-4.75%. This will be beneficial to Synchrony, as the amount they pay for deposits should drop, reversing the changes in the net interest margin this year. However, charge-offs are unlikely to drop in 2025, as charge-offs are fed by the delinquencies with a six to nine months lag. Based on a drop in interest rates earned on deposits, provisions that continue at the current percentage of lending and no beneficial brand sales and growth of 10%, I expect Synchrony’s net interest income next year to be $20.7bn and their net profit to be $3.5bn. This would be an increase in the underlying profit of 42%, driven by the lower interest rate of deposits, and a 6% headline increase in profit over 2024, as the Pets Best sale increases 2024 profits. I suspect that the market will not be happy with headline net profit growth of only 6%. Financial sector risks are increasing Credit card lending, margins and profits are highly sensitive to the economy. If there was a downturn in the economy, Synchrony would feel the impact, with slower lending growth, and higher charge-offs. Considering the increase seen in delinquency rates when the unemployment rate is low, any increase in unemployment could be expected to be seen relatively rapidly in delinquency rates. However, Government spending is expected to be supportive of the economy in 2025, but needs the debt ceiling to be successfully raised again in January 2025, which has historically been an issue for some Republicans. Valuations for financial institutions have also started to creep up. In McKinsey’s Global Banking Annual Review 2024, they show this graph: McKinsey: Global Banking Annual ReviewThe graph can be interpreted in two ways. The first is that valuations in banking are due to catch up to the rest of the market. In 2024 this has occurred, with the S&P financial sector ETF (XLF) up 42.8% this year. This drove an increase in price-to-book from 1.0 in 2023 to 1.5 in September 2024 (Bank industry valuations) Seeking AlphaThe second interpretation is that high price to book ratios are an indicator of the future risk of financial distress and falls in share prices. The first sentence in the McKinsey review is “The past two years have been the best for banking since before the global financial crisis (GFC) of 2007–09, with healthy profitability, capital, and liquidity.” That sentence puts a chill down my spine. Best since just before the GFC. But this time is different, isn’t it? Sort of. Generally, price-to-book in the financial sector averages slightly over 1.0 because the company is worth the value of its equity, once you sell off the loans and return the deposits. There are no indications of problems in the financial sector, and the premium over book value may moderate slowly over time. But the premium does make share prices more vulnerable to shocks that cause a reassessment of the risk-reward trade-off for holding financial shares. The only way that the current increase in the ratios works is if household budgets improve, leading to reductions in delinquencies and charge-offs. I believe the Republican Party was elected based on policies that included reductions in company tax, income tax and the elimination of tax on tips, which would improve household budgets. However, the timing of any tax cuts (read more here) and the size of the impact on household budgets is unknown. The bipartisan Tax Foundation estimates that for most households, the impact of tariffs will be greater than the benefit from tax cuts. Valuation and comparison to Peers Companies like Synchrony are generally above book value, as the high return on equity they earn during the good years justifies a premium price. But this can quickly reverse in a bad year, wiping out all the profits of the previous good years if you are holding the stock at the wrong time. As you can see from the graph below, in 2020 when Covid arrived, share prices dropped to a price-to-book of 1.0 or below for Synchrony and its credit card lending peers, Ally Financial Inc (ALLY), Discovery Financial Services (DFS) and $Capital One Financial Corp(COF-N)$ (COF). Seeking AlphaThe last time the price-to-book of Synchrony was as high as it is now at 1.72, was early 2022, before delinquencies started rising. I don’t think that the current premium price is justified at the current level of delinquencies, and expect the price-to-book to normalize back towards the more moderate value of 1.3 seen for June 2022 through June 2024. However, overvaluation may persist for some time on the expectation of better times ahead, despite the fundamentals. A reversion to a price-to-book of 1.3 would decrease the share price to around $49.40. Alternatively, the book value could rise from its current level of $37.92 to match the current share price by increasing to $49.95, which is equivalent to the retention of approximately three years earnings. The downside value in a recession is $38.00 if it drops to a price-to-book multiple of 1. This is substantially less than its current value of $64.98 (as of 15 November 2024). Summary  Synchrony's low growth in net income does not justify the current price-to-book-value premium paid for Synchrony of 1.7 versus the financial industry average of 1.3. It would be wise for investors to take profits, as the downside risk of a fall in value greatly outweighs the upside risk of an increase in share price. I would review this decision and consider buying if the price decreased and/or delinquencies dropped significantly over a twelve-month period.","kind":"highlight","is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"-1","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":"4.29.3","shortVersion":"4.29.3","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/2485362562"}