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Summary

  • Can JPMorgan escape the image of banking dangerously?
  • Despite recent struggles with revenue growth, the bank continues to create value for investors.
  • The bank's efficiency improvements and cost-cutting measures are beginning to payoff.

Warren Buffett once said, "It takes 20 years to build a reputation and 5 seconds to ruin it."

Today, one can't discuss the prospects of JPMorgan (NYSE:JPM) without mentioning the embarrassing London Whale trade, which costs the bank $6 billion dollars. Nevertheless, I will credit management for having acted quickly to mitigate the damage. And since then, JPMorgan has paid dearly for other issues with internal controls. And is now working its way back.

For some investors, however, JPMorgan's recovery has appeared too slow. From our vantage point, the bank is coming off an excellent fourth quarter, surprising the Street with solid growth in net income. The bank's efficiency improvements and cost-cutting measures are beginning to pay off. Investors want confirmation that there will be no setbacks.

JPMorgan will report first-quarter earnings Friday. Unlike previous quarters, analyst seem more optimistic that the bank can continue it momentum. CEO Jamie Dimon has been saying all of the right things. So although there is an expected 11% decline in profits, which is projected to come in at $1.41 per share, investors understand that this quarter won't make or break the bank. For the fiscal year, analysts are expecting earnings of $5.90 per share.

Similarly, analysts are expecting an 11% drop in revenue, which is projected to be at $24.56 billion for the quarter. Full-year revenue is projected at $99.61 billion. But after a 8% drop in revenue in the January quarter and an 8% drop in the quarter before that, investors understand the weak interest rate environment has taken a toll on all banks. Not just JPMorgan.

Despite slowing growth, mortgage banking is expected to remain solid. JPMorgan has done well in terms of loan originations, which climbed more than 30% in the January quarter. Accordingly, we believe JPMorgan still has a strong business in and a solid franchise in investment banking, mortgages and retail banking.

These should mitigate any potential hiccup with revenue growth. As it stands, the core business remains intact. What's more, JPMorgan has figured out ways to boost its balance sheet to over $2.4 trillion, up more than 2% in the recent quarter.

From that standpoint, if the bank can continue to produce solid return on equity in the low to mid single digits (12.5%) coupled with a discount rate of 9.5%, there is no question that fair value on the stock should be around $65.

Analysts that cover JPMorgan agree. As of this writing, 77% of them have a buy rating on the stock with a median price target of $67. This is because in absolute terms, the bank's results continue to standout - particularly on the basis of improved earnings and cash flow growth. This is the best way for JPMorgan to rebuild it reputation.

As I've been saying for while now, the stock remains undervalued by (at least) 12-15%. And when coupled with the potential for share buybacks over the next several quarters and an improving balance sheet, this stock may still be the cheapest bank on the market.

Source: Why JPMorgan Is Heading To $65