New York Community Bank (NYSE:NYCB) has underperformed the broader market recently primarily due to the rising concerns following the Astoria Financial (NYSE: AF) acquisition. Particularly, the stock has been down by 18.7% over the past six months while the financial sector ETF (NYSEARCA:XLF) has only seen a 3% drop. The share performance was also far from satisfying on a year-to-date basis as a decline of 7.8% has been recorded until mid-May.
After a long period of being a high dividend yield, New York Community Bank declared that it cut its quarterly dividend payments from $0.25 to $0.17, which lowered its yield by 54 basis points on the current stock price. Still, the stock offers an annual yield of 4.57% which are the highest among large-cap banking stocks, however, NYCB was less favorable to many income-oriented investors with the dividend cut decision made in late October 2015 when the stock took a dive. Moreover, the bank had to raise equity to pay down the debt that had gone higher due to the acquisition, resulted in more investors fleeing the stock. In Q4 2015 the bank reported a loss due to charges of $614 million that were related to the acquisition. Finally, with the completion of the transaction, NYCB will be subject to the regulations for systemically important financial institutions as the asset size of the bank will have reached +$50 billion. These all were valid points for the underperformance considering the bank's income-oriented investor base and basically due to the raised equity, the economic value of each share dropped after all as the additional funds to the bank came at the expense of the shareholders.
The acquisition might look even more unusual since typically banks are expected to manage the SIFI threshold with organic growth. However, I do not believe NYCB is in the grip of doom and gloom owing to the transaction, yet, the bank will have some significant benefits, specifically on the funding capacity. Astoria had a strong deposit base which also cost less. Astoria reported average total deposits of $9.2 billion with a cost of 0.41%, well below NYCB's interest expense on deposit book at 0.62% for the same period. The bank's deposit market share is projected at 9.2% in Metro New York region at the merger's close. With to consolidation of the securities book, NYCB will have greater ability to meet the liquidity coverage requirements. Given the bank's high loan-to-deposit ratio, this has been a focal point for the management and will be. Ultimately, with the completion of the merging process, NYCB see 20% and 6% accretions in 2017 expected earnings and tangible book value, respectively.
Turning back to the NYCB's own financial performance and the outlook, I see a reversal of the some of the factors that drove the bank's underperformance. First, as is the case in most other savings and loans banks, net interest income has always been the key revenue source for NYCB, so that, it has accounted for 85%of the total revenues over the past five years. For Q1 2016, the bank reported a net interest margin of 2.94% which was 34 basis points higher year-over-year. In the anticipation of future Federal Reserve rate hikes, NYCB would continue to enjoy a margin expansion. With that being said, the bank recorded a compound annual growth rate of 7% in loans over the past two years as well as saw a growth at the same pace in Q1 2016 when compared to the first quarter of last year. The management targets a volume growth above 10% in mortgages going forward by gaining market share and then re-deploying assets. The Astoria deal would also be beneficial in this sense. Eventually, I believe that core revenues should be buoyant at NYCB with decent volumes.
The charges associated with the purchase of Astoria and related debt repositioning resulted in a loss for Q4 2015 and for the full year on a GAAP basis. The bank prepaid $10.4 billion off wholesale borrowings and reduced the cost of those borrowings by 50%. This was expected to add $100 million after-tax annually to the bank's earnings. Actually, this was already reflected in Q1 results and was the most probable cause of the margin improvement in the quarter. Within the perspective of profitability, this would itself increase EPS by 20 cents a year, and move ROATCE higher incredibly, almost by 250 basis points.
On the asset quality front, the bank has had a great performance in the past two years, so that total recoveries exceeded the charge-offs. NYCB is still riding the asset quality improvement cycle unlike many other banks in the US thanks to its positioning in the market. As of the end of the last quarter allowances for non-covered loans ratio stood at 41 basis points and was three times higher than non-performing non-covered loans as well as recoveries once again overcame charge-offs and contributed to the bottom-line. What is more, the labor market figures are particularly strong in states like New York, New Jersey where key markets are for NYCB. Thus, an asset quality deterioration is very unlikely in a baseline scenario.
Trading at multiples of 13x 2016E P/E and 1.2x P/BV, NYCB has a premium valuation about 10% on both metrics when compared to its peers. The consensus estimates for 2016 EPS and 2017 EPS are $1.12 and $1.24, respectively. I believe that earnings estimate upgrades is very likely in NYCB as I expect the bank to report net income figures of $1.24 and $1.33 per share in the next two years, which puts even above the curve. Given the historical record of the bank in beating the estimates, my views look more realistic. I believe that the bank could post a ROATCE of 18.5%, leading a fair value around 2.5x P/TBV, or $18 per share, considering the bank's growth outlook, strong asset quality, relatively still high dividend yield in the banking industry as well as extremely low beta of the stock. In my opinion, the stock has been beaten up enough due to the Astoria deal and should emerge as an outperformer in the mid-term.
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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.