It is a tough time for banks and financial stocks as a whole. On one hand, energy-related concerns are causing significant volatility in the market, and fears of Negative Interest Rate Policy (NIRP) from the Fed are troubling the financial stocks more than any others. In the current bearish market, banks will see a strong impact on their earnings (due to high energy exposure) and will be meted out a harsher punishment due to fears of NIRP.
Despite very modest exposure to energy and low asset sensitivity, Huntington Bancshares (NASDAQ:HBAN) has been punished too strongly. The company's fundamentals have not changed much from the last quarter to now, but the macro-economic environment is not signaling a brighter future. In addition to reviewing Q4 earnings results in this article, I will try to assess the sustainability of Huntington Bancshares' dividend in a dwindling economic environment.
The bank's Q4 earnings results were better than expected, with excellent growth in noninterest income offset by higher interest expenses and huge allocation to the reserve for credit losses account. Net income applicable to common shareholders grew by 9% in Q4 YoY, net interest income grew by 5% and noninterest income grew by 17%. However, management was not quick to pass the growth in revenue to the bottom line, but rather, positioned HBAN for a sustained earnings growth trajectory by allocating substantial amount to the reserve for credit losses account to normalize the earnings growth trajectory in spite of having more than sufficient reserves.
Loan portfolio growth of 6% and deposits growth of 7% is top tier and is much needed to nullify the effect of the compressing net interest margin. Net interest margin declined by nine basis points to 3.09% YoY. Like many large banks, Huntington has depended on noninterest income to grow its top and bottom lines. By squeezing higher charges from its customers, HBAN and other large banks are compensating the shortfall from the declining net interest margins.
Driven by larger scale of revenue and expiration of amortization intangibles from Sky Financial, efficiency ratio has improved by 250 basis points to 63.7%. However, this improvement is not reflecting in the return on average assets performance due to heavy provisioning. It will be more interesting to see how HBAN balances revenue growth and provisioning in the next quarter. Expect significantly lower provisioning in the next quarter due to more than required reserve account balance. Quarterly YoY noninterest expenses were positively impacted by the full amortization of the core deposit intangibles from the Sky Financial acquisition at the end of Q2 2015.
Having reserves 2 or 3 times more than nonperforming assets does not make a bank well positioned for a dwindling economic environment beyond a certain extent. During an economic downturn, even some of the high net worth customers start seeing a backward movement in their career [income], and in the same way, asset values fall. The gap between loan amount and the asset pledged is one crucial way to understand how conservative a bank is. While HBAN's high focus on lending to super-prime customers is good, its average Loan to Value [LTV] of <80% in the home equity loan portfolio and <90% in auto loans does speak of a not much conservative mindset. With a lack of conservativeness in its loan portfolio, Huntington cannot outperform its highly conservative peers in an economic downturn. Therefore, the dividend is not highly secure during an economic downturn, in my view.
While Huntington's lack of conservatism is not good for dividend investors during an economic downturn, this very factor helps the bank grow its loan portfolio much faster than its highly conservative peers during all times.
At present, HBAN is trading at a valuation of 10.7X earnings, 9.62X forward earnings and 1.11X book value. Huntington Bancshares is a good opportunity for long-term growth investors, but caution is warranted during economic downturns.
Disclosure: I/we 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.