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Banco Santander (SAN) has an attractive valuation that stemmed from the weak economies in Europe for the past few years. However, the situation in Europe has improved and Banco Santander is poised to benefit from the recovery. The company pays an above average dividend of 7.6% and has expected earnings growth that should drive the stock to outperform the market over the next few years. Banco Santander's Q4 2013 report highlighted some other positive developments for the company.

  1. The company is seeing growth rates of 15% for loans and deposits and 20% for mutual funds in emerging markets. Growth in these areas was at a faster pace than previous quarters. This shows that Santander was able to capitalize on the economic growth of expanding countries. Poland which accounts for 6% of Santander's profit saw huge growth with a 73% increase in loans and a 69% increase in deposits. Brazil which accounts for 23% of Santander's profit was also a bright spot where it achieved a 32% increase in mortgages. As a comparison, growth in mature markets was -6% for loans, -3% for deposits, and +6% for mutual funds.
  2. Santander has also made improvements with its balance sheet. The company has a comfortable liquidity position with a loan to deposit ratio of 109%. The cost of credit has decreased to a comfortable level of 1.5%. Capital generation has been strong, which led the core capital ratio to increase to 11.71%. This represents a 138 basis point improvement over 2012 and a 413 basis point improvement since 2008. These improvements have Santander emerging from the Eurozone crisis with the benefits of the recovery showing in the company's fundamentals.
  3. Profits are growing due to less need for provisions. The lower provisions were attributed to excellent risk quality. This speaks to how Santander is effectively managing its portfolio of loans. Another factor for the improving profitability is the European economy moving away from crisis and more towards recovery. More customers are seeking loans and Santander is there to deliver them.
  4. Banco Santander is growing lending faster than its competitors. The reason for this is due to the change in profile from unsecure loans to secure loans. This is another management strength that gives Santander an edge over the competition. By focusing on higher quality loans, Santander is reducing its risk and placing itself into a good position to grow market share.

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Still Attractively Valued

Santander's stock has been bouncing around between $8 and $9.50 for the past few months. It is trading at 14.3 times expected 2014 EPS of $0.63 and 12.7 times 2015 EPS of $0.71. When factoring in the company's five-year annual expected earnings growth of 12%, SAN has a PEG of only 1.14. When comparing these figures to the S&P 500's forward PE of 15 and PEG of 1.3, Santander is clearly undervalued. Santander is also only trading at 1.14 times its book value per share as compared to the S&P 500's price to book ratio of 2.45.

Santander's lower than average valuation is a result of its short-term risk. Many economies in Europe are still fragile and remain at risk of declining. Banco Santander's health depends on an overall growing global economy, so if an economic problem arises again in Europe or elsewhere, the company's fundamentals could decline.

With that in mind, the company has been managing risk effectively by focusing on more secure loans. The economies in Europe are slowly making improvements and gains are being seen in the rest of the world. If this positive momentum continues, Banco Santander should reward investors with price appreciation over the long-term. In the meantime, investors will be paid to wait with a 7.6% dividend yield.

Source: Banco Santander: Positive Developments For This 7.6% Yielder