Although I cover the biotech and small pharma space almost exclusively these days, I try to keep up-to-date on some of my older calls. One company that I followed quite closely in the first half of last year was JPMorgan (NYSE: JPM).
In this article dated June 28th 2012, I advised investors to buy the undervalued company under $37/share and to wait for roughly $50/share. I went into more detail behind my perceptions of the bank's valuation in "The Intrinsic Value of JPMorgan," which had a part 1 and part 2. While a lot of the data and argumentation is now outdated, the main point that I was trying to make back then was that the bank was trading well below book value, and was unjustly damaged by temporary shifts in sentiment related to the "London Whale" fiasco.
JPMorgan has finally approached the $50/share mark, and investors who listened to the call would have gained over triple the returns of the Dow in the same time period. With the completion of that call, I thought it would be a good time to revisit JPM with the latest information to determine if the stock is as attractive as it used to be.
Ultimately, I came out with a pretty neutral opinion, implying that the stock will probably drift wherever the Dow decides to take it. Here are my reasons:
1.) JPM P/B Value is Back At 1
When I wrote my article last summer on JPM, a large part of my bullish argument was based on the P/B ratio of .7. This meant that for every $1 of JPMorgan assets, you'd pay $.70 cents while also receiving dividends. Historically, JPMorgan doesn't like to move too far about a P/B of 1.
2.) The Dividend Payout is Lower
One of the things that impressed me about JPM compared to the rest of the big banks was its ability to pay a great dividend to its shareholders. While the stock still has a yield of 2.45%, it was 3.4% when I first made the call to buy JPM.
3.) The Financial Industry is Still Stagnating
This is not limited to JPMorgan, but it's important to note that the financial sector is still contracting in many areas. JPMorgan is still downsizing its workforce, implying that the bank expects the trend to continue. This ties most heavily into the bank's top-line growth, which is almost nonexistent.
4.) Lending Remains a Low-Profit Business
Narrow spreads between high yield and low yield debt, like T-bills, is wreaking havoc on the financial sector, and this is at the root of the stagnation of the financial industry. Lenders are desperate to give out loans, driving down yields. Unfortunately, many of those that actually need the loans cannot get them due to higher standards for loans in the wake of the financial crisis and a general fear of "bad loans" or "toxic assets" by the banks. Those that can get the loans are quite few in number, meaning that loans are harder to issue and less profitable per dollar. Despite what the fed is trying to do for the financial industry, it's not working.
While I admit that this theme has been beaten to death in recent years, it remains an important consideration in the analysis of lending institutions.
5.) The Market is a Bit Expensive
Although we're sitting at multi-year highs on the major indices, I think we're getting a bit too confident. The P/E ratio of the Dow Jones Industrial Average, according to WSJ, is now 15.5 relative to the 14.5 we had a year ago. While this may not seem like much, consider that many companies have been growing earnings without any topline growth (like JPM). An increase in the P/E ratio itself implies that we're expecting earnings growth to accelerate, which is impossible in the long run without revenue growth.
With these five general points in mind, I find it harder to recommend JPMorgan as a value play going into the second quarter of 2013. The stock has had a great run in the last 9 months or so, but it's starting to look a bit tired.