The Federal Reserve's interest-rate hikes since 2004 appear to be slowing economic growth, as evidenced by softer-than-expected government figures for industrial production. Further, although the commercial real-estate market remains solid, risks exist, while the residential market continues to slide. The impact of easing growth is reflected in analyst earnings estimates for many regional banks. Of the 517 regional banks in the Reuters.com universe, the consensus earnings-per-share [EPS] estimate for the current fiscal year is lower than it was eight weeks ago for 153 of them. (Click here to download an Excel spreadsheet comparing the regional banks that appeared on the Reuters Select stock screens.)
Yet, there are pockets of strength. The Federal Reserve said in the July 26 edition of the beige book that economic growth had slowed across the country. The report, however, described the rate of growth in several of the 12 Federal Reserve districts, as "moderate" or "modest," while San Francisco area activity was "solid."
For this reason, we focused on banks domiciled in the San Francisco district, which includes the states of Alaska, Arizona, California, Hawaii, Idaho, Nevada, Oregon, Utah, and Washington. We started off with a list of all 86 regional banks that recently appeared on at least one Reuters Select stock screen, and then filtered for the banks based in these states, reducing our list to 19 names.
To further narrow our list, we focused on banks that are both trading at reasonable prices and posting strong performance. To gauge performance, we filtered for banks with superior figures for return on assets [ROA] over both the trailing 12-month [TTM] and five-year periods. Thirteen of the 19 banks have posted TTM ROA figures that matched or beat the industry average of 1.37. The mean for all 19 was about 1.55. Given such solid performance among so many members, it should not be surprising to find that these 19 western banks, on average, command a premium valuation: The mean price-to-earnings [P/E] ratio is about 17.7, versus an industry norm of just 16.
Given the strong performance and premium valuation of this group, we focused on stocks with TTM ROA results that are at least 10 percent above the average for this list of western banks, or 1.65, and have P/E ratios that are no more than 10 percent above the average for this list, or 19.5. Through this additional filtering, we found California-based Hanmi Financial.
Hanmi has posted superior ROA results over both the TTM and five-year periods.
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Hanmi also has an attractive price tag: Its P/E is well below the benchmark that we used and the industry norm.
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Not surprisingly given its reasonable price tag, Hanmi registered on the Reuters Select stock screen for Relative Value.
The Relative Value screen looks for companies that are trading at reasonable valuations relative to the industry average, on the basis of traditional metrics: It requires that a company's valuation must be no more than 10 percent above the industry average on the basis of P/E, P/Sales, and P/Cash Flow.
It is important to note that bank financial statements are different from those of companies in other sectors. For instance, whereas many companies have sales or revenue, a bank's top line consists of interest income, which is the amount of interest that a bank takes in from loans. Banks then subtract interest expenses, or interest that it pays on various accounts, to arrive at net interest income. While we might look at the P/Sales ratio of non-financial companies, we are basically looking at P/interest income with banks.
The screen then focuses on earnings. It requires that a firm's earnings per share [EPS] must have grown at a pace at least 25 percent greater than the industry norm in the TTM time frame. Hanmi has posted both revenue and EPS growth rates that exceed the industry averages over the five-year, TTM, and most recent quarter [MRQ] periods.
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Further, analysts surveyed by Reuters look for Hanmi to continue growing its earnings. On average, they look for the bank to post EPS of $1.30 this year and then hit $1.46 in 2007.
Based on a current stock price of about $19.70 and the EPS estimates for 2006 and 2007, HAFC shares are trading at forward P/E ratios of about 15.2 and 13.5, respectively. Although the Relative Value screen does not place any restrictions on forward P/E levels, it does require that a company's PEG ratio - forward P/E divided by analyst estimate for long-term EPS growth - must be 2.00 or lower.
One analyst also provided Reuters with an estimate for a long-term EPS growth rate of 12 percent. Using this number and the forward P/E ratios, we find that Hanmi has PEG ratios of roughly 1.3 and 1.1, respectively, helping to secure the bank's presence on the Relative Value screen.
At the time of publication, Erik Dellith did not directly own puts or calls or shares of any company mentioned in this article. He may be an owner, albeit indirectly, as an investor in a mutual fund or an Exchange Traded Fund.
Note: This is independent investment and analysis from the Reuters.com investment channel, and is not connected with Reuters News. The opinions and views expressed herein are those of the author and are not endorsed by Reuters.com.