Moving Into Financials

Includes: BX, GS, MS
by: Bret Jensen


Financials are posting some solid results in the first quarter.

Rising interest rates and a robust IPO market should act as tailwinds to the sector.

The sector remains attractive on a valuation basis and I'm upping the allocation to the sector in my own portfolio.

The market continues to be volatile but it is nice to see a string of gains after last week's declines. Some of the high momentum stocks and sectors still seem to be under some pressure and I believe it is still too early to buy back into these names like Tesla Motors (NASDAQ:TSLA) or Netflix (NASDAQ:NFLX).

I have been adding to my allocation to financials within my own portfolio. The valuations on the sector are very reasonable. This sector should also be helped by rising interest rates in the second half of the year as the economy strengthens. This will boost banks' net interest margins and the performance in insurers' fixed income investment portfolios.

In addition, the IPO market remains strong despite a recent minor hiccup. Mergers and acquisition activity should also be solid given credit availability and the difficulty of achieving organic growth. Finally, quarterly earnings results are coming in stronger than expected.

I had Financials as a slight underweight to begin year but have moved to equal weight with a recent purchase of Visa (NYSE:V) on its dip while adding to my Citigroup stake after the sell-off that occurred before earnings. Here are three financial firms reporting solid earnings this morning that are also attractive on a valuation basis.

Blackstone (NYSE:BX) just posted its strongest quarter since coming public in 2007. The investment firm easily beat on the top and the bottom line consensus. Revenues grew almost 20% year-over-year. Economic Net Income (ENI) - the equivalent of earnings for this company - were up 30% Y/Y.

I would look for several analysts' earnings estimates to be taken up over the next week on the back of these very strong results. I would also look for a couple of upgrades and upward revisions to price targets by the end of the month.

Currently Blackstone's valuation is solid. The shares trade for around 10x trailing earnings, a significant discount to the overall market multiple (~17x). Assets under management (AUM) are showing strong growth and as long as the IPO market does not break down, the firm should be able to continue to "harvest" significant gains.

Morgan Stanley (NYSE:MS) continues to show strong results as it continues to transition from being an investment bank to a wealth management firm. The company easily beat the top and bottom line consensus. Morgan has been beating estimates consistently for more than a year.

The company also announced it will double its dividend to 10 cents a share per quarter. Tangible book value is now $27.41 a share which means the stock is trading just ~10% above tangible book. Earnings from continuing operations moved up better than 12% Y/Y.

Morgan's earnings trajectory is solid. The company made just over $2 a share in FY2013. Current earnings projections - and look for them to be revised up - call for $2.40 a share in EPS in FY2014 and around $2.90 a share in FY2015. Shares are going for just over 10x FY2015's consensus EPS and will now yield 1.4% with a dividend hike.

The "Vampire Squid" also known as Goldman Sachs (NYSE:GS) completes our triumvirate of financial firms posting very strong earnings this morning. Earnings per share came in at $4.02 a share, almost 60 cents a share above the consensus. Revenue came in ~$600mm over expectations despite a punk trading environment.

Goldman should continue to be bolstered by a solid IPO market and higher interest rates could be good for their fixed income trading operations. The company is doing a solid job on expense reduction with compensation and benefits down 8% Y/Y even with just a 1% reduction in headcount. The shares are not expensive at just over 10x trailing earnings and also pay a 1.4% dividend yield.

Disclosure: I am long MS. 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.