It’s Not Too Late to Buy This Rock-Solid Value Stock

Capital One Monetary (NYSE:COF) traders have had a terrific yr. At Monday’s costs, the inventory was up greater than 70% in 2021, which is thrashing each the S&P 500 and the typical return within the monetary sector. It has bounced again properly from the worst of the pandemic, based mostly on an uptick within the financial system, amongst different components.

However even now, the inventory nonetheless has a comparatively low valuation, which implies it might nonetheless have room to run. With third-quarter earnings developing on the finish of October, now could also be a time to contemplate making the most of Capital One’s good value, earlier than one other sturdy quarter probably boosts it even larger.

Bank card earnings surges

You in all probability know Capital One from its ubiquitous commercials as one of many largest bank card issuers within the nation. As an issuer, it lends the cash for bank card purchases and makes income on curiosity paid on the loans in addition to swipe charges. It’s the fifth-largest bank card issuer, with a market share of roughly 10%. It is also a financial institution, providing conventional banking providers for people and companies, however most of its income — round 61% — comes from bank cards.

Within the second quarter, bank card income elevated about 6% yr over yr to $4.5 billion, whereas total income jumped 12% to $7.Four billion.  This was resulting from a 47% improve in buy quantity to $132.7 billion as extra individuals had been out spending in comparison with a yr in the past. The online charge-off charge was additionally down, from 4.5% a yr in the past to 2.3% — which implies credit score high quality improved as fewer individuals had been defaulting on their money owed. Web earnings jumped to $3.5 billion, up from $3.Three billion within the first quarter and a $917 million web loss a yr in the past — which was an anomaly due to an enormous $4.2 billion provision of credit score losses put aside in Q2 2020. However for a historic perspective, during the last 10 years, Capital One has grown income about 8% per yr.

Third-quarter earnings might be launched on Oct. 26 and, as my colleague Bram Berkowitz identified in a current article, mortgage balances had been trending up and credit score high quality continued to enhance in August, so that might bode nicely for continued momentum.

A tech firm that does banking

Capital One founder and CEO Richard Fairbank sees the corporate’s embrace of know-how as a key differentiator when it comes to its effectivity and progress. “Our fashionable know-how is powering our present efficiency and setting us as much as capitalize on the accelerating digital revolution in banking,” Fairbank stated again in July on the second-quarter earnings call.

The investments, which the corporate has made steadily over the previous 9 years, have improved each the client expertise and operational efficiencies. Fairbank stated the purpose is to “construct a know-how firm that does banking, primarily what Capital One is. The know-how and knowledge are more and more what the enterprise is.”

On the matter of operational talent, the corporate has an efficiency ratio of 53.8% and an working effectivity ratio of 45.4% (which is working expense divided by complete web income). Since 2013, Capital One has lowered the working effectivity ratio by Four proportion factors, stated Fairbank.

“So in the meantime, we proceed to give attention to working effectivity. Our tech transformation is the engine of long-term effectivity beneficial properties, each by income progress and digital productiveness beneficial properties,” Fairbank stated on the decision. “And delivering constructive working leverage over time continues to be one of many vital payoffs of our know-how journey and a key aspect of how we ship long-term shareholder worth.”

Whereas Capital One’s web earnings has had its ups and downs over the previous 10 years, these investments and effectivity enhancements have began to repay, within the years simply previous to the pandemic, and may web extra constant leads to the years forward. 

Acquisition and outlook

Whereas the bank card enterprise is Capital One’s bread and butter, it made an acquisition on Oct. 14, shopping for TripleTree, a agency that focuses on mergers and acquisitions and funding banking within the healthcare sector. This might be a catalyst to assist increase Capital One’s small however rising industrial banking enterprise.

I believe the corporate is in an excellent place to develop. It has exhibited mortgage progress in a nonetheless uneven financial atmosphere, and its effectivity enhancements ought to assist flip that into constant earnings progress. The corporate has reported more and more larger margins — because it at present has an working margin of 51.7% and a return on fairness of 19.6%, each wonderful numbers. 

Plus, the corporate comes out of the recession with nice financials, together with a standard fairness tier 1 (CET1) ratio of 14.5%, twice the required minimal, and a excessive liquidity protection ratio of 141%.

Capital One’s valuation is extraordinarily low: It has a price-to-book (P/B) ratio of 1.3, a price-to-earnings (P/E) ratio of simply 6.7, and a ratio of price to earnings growth (PEG) of 0.54, which is an indication the market is discounting its earnings potential. Whereas the P/B ratio is barely larger than it has traditionally been over the previous decade, it is nonetheless fairly low in absolute phrases, and lower than those of its competitors.

It may be a great time to contemplate this rock-solid inventory, which has constructed a massively recognizable model and appears well-positioned to ship long-term returns.