Citigroup (NYSE:C) has been one of my favorite stocks in the financial sector for a little while now. As the economy starts to slowly rebound, the housing market continues to pick up and the carnage from the recent financial crisis drifts further into the past, some of the big bank stocks are starting to look more and more like enticing investment opportunities.
I made the case a little while back why I think Bank of America (NYSE:BAC) is poised to make a significant move upward and I think Citigroup might be in a similar promising position. There are a few catalysts - both fundamental and qualitative - that I think help make the case for a rise in Citigroup's stock price.
Citigroup, however, does face a few issues that as of now remain unresolved. How those issues impede or dampen the bank's growth potential remains to be seen but they are issues that need to be cleaned up.
Let's take a look at both the good and the bad.
The stock currently looks downright cheap.
Let's start with the fundamentals. Citigroup trades at a discount to the banking sector as a whole while maintaining a 5 year projected growth rate almost 40% higher than its peers.
Citigroup's forward P/E ratio currently stands at around 9 - about 20% below the industry average. At the same time, the bank's annual projected growth sits at about 14% versus the industry average of roughly 10%. An inexpensive valuation coupled with above average growth could be a near perfect storm for a surge in the stock price.
One catalyst for this growth could be a steepening of the yield curve. In May, we saw rates rise nearly 50 basis points on the long end of the curve while remaining virtually unchanged on the short end. With short rates forecasted to remain low, the company could make significant improvement in the return on earning assets and deliver a substantial boost to the bottom line.
The potential exists for a near-term dividend increase.
Within the last couple of years, Citigroup has made vast improvement in the credit quality of its balance sheet. The company continues to purge non-performing assets and, as a result, the capital position is stronger than it's been in a while.
Citigroup could be nearing the point where management is able to satisfy the Fed's capital adequacy requirements. Once that happens, the bank could pull the trigger relatively quickly on a dividend increase and/or a share buyback. Either one will deliver value to shareholders.
There is balance sheet cleanup that still needs to be done.
OK, here comes the bad news. While the company is making progress, there's still work to be done on the balance sheet. The company still has roughly $150 billion in bad loans on the books and that could continue to be a drag on earnings. Granted, the company appears to be heading in the right direction and management seems to be addressing the issue appropriately but it's still a reminder that the fallout from the financial crisis still lingers.
The burden tied to ongoing lawsuits.
Another example that's currently on display is the lawsuits filed against Citigroup by the Federal Housing Finance Agency and by Terra Firma Capital.
Citi announced a settlement recently in the FHFA lawsuit that was related to low quality mortgage-backed securities that were sold to Fannie Mae and Freddie Mac. The amount of the settlement is not yet public but it could end up costing Citigroup as much as $3.5 billion.
Additionally, the company is facing an $8.3 billion from Terra Firma related to the acquisition of EMI by the private equity fund. Citi thought this lawsuit was behind them but a federal appeals judge threw out the original jury verdict and the two parties may have to return to court.
Considering settlements and judgments, the bottom line impact to the bank could end up being relatively small but the potential black cloud could hang over the company.
The company is still facing pressure globally.
Citigroup has a global presence and many of these countries are still working out their own economic issues. If global loan loss provisions need to be raised or if some of these economies start to slip deeper into recession, Citigroup begins to look less attractive.
The overall upside to Citigroup remains positive. Citigroup should be able to benefit from not only an economy-wide recovery in the financial services sector but from a position of competitive advantage within the industry. If the current path continues to play out, the stock could be positioned for significant upside.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.