Financial stocks had a field day last Tuesday after JP Morgan Chase (JPM) announced that the Federal Reserve had given it clearance to increase its dividends by 20% (from 25 cents to 30 cents) and buy back $15 billion in shares, with up to $12 billion approved for 2012, and $3 billion for the first quarter of 2013.
The Federal Reserve had intended to release the results of its latest stress test on Thursday after market close but, once JP Morgan broke the news, they were forced to reveal their standings. The Fed "tested" 19 financial institutions on their abilities to weather a hypothetical drop in housing prices of over 20%, a rise in unemployment to 13%, and a more than 50% landslide in the Dow Jones Industrial Average, looking primarily at its high quality capital compared to its risk weighted assets. Passing marks meant that the bank had a Tier 1 common capital ratio of more than 5% and could start increasing its dividends and also start to buy back shares. Four missed the mark, including Citigroup (C).
JP Morgan said it was a "misunderstanding" that prompted the early release, but accidental or not, the effect was undeniable. Its shares went up over 7% by the end of trading Tuesday - and the increase has held. JP Morgan was trading at $40.54 when the markets closed on March 12, the day before the company's big announcement; by the close of trading on the 15th, that number had increased to $44.70 a share - representing a total increase of over 10% - and there is no reason to think that it won't continue to rise in price.
The company has a massive gross profit margin of over 79%, increasing from the same quarter the previous year. JP Morgan also has an impressive net profit margin of 15.30%, beating its industry average. Furthermore, the company has posted massive net operating cash flow increases, firmly outpacing its industry peers. JP Morgan boasts a modestly increasing return on equity as well, pointing to modest strength in the company.
The company's return on equity moved from 4.6% at the end of 2008 to 9.5% at the end of 2011. Plus, to its credit, JP Morgan has been able to increase its dividends twice since the start of the financial crisis. The company is also priced at a discount to its peers right now, trading at 7.49 times its forward earnings versus an average for its rivals with a forward price to earnings ratio of 9.97.
That's not to say that JP Morgan is coming up all roses. The company's sales and net income have both dropped, while its revenues fell over 17% quarter over quarter. Its earnings per share also declined, declining almost 20% compared to the same quarter last year. JP Morgan's earnings growth isn't much better. At 12.87, its earnings growth rate is considerably lower than its industry average of 35.48. But, I'm not worried.
I think that JP Morgan is in a great position to generate massive returns. It has strong capital levels, particularly from its credit card and corporate banking divisions. And there is no reason to think that its share price will not continue to rise. I recommend it a buy, if you can buy in at the right time. JP Morgan is priced low right now, but it won't be for long - especially when viewed in comparison to its peers.
Take Citigroup for instance.
Citigroup fell short of the Fed's stress test by 0.1%. I'm sure it will retest soon, meaning that a dividend increase is in the company's near future - a fact that is certainly encouraging - but looking at its numbers, I doubt that the stock will see much upside in the near future.
Citigroup's earnings per share fell 22.5% compared to the same quarter last year after its revenues dropped by roughly 7%. Its net operating cash flow also leaves something to be desired. While the company's cash flow increased by over 20%, its industry average is much higher at 246.65%. Citigroup's net income fell significantly as well, declining by roughly 27% compared to the same quarter last year. The company's sales and net income dropped, while its gross profit margin stayed roughly the same.
It isn't all dark clouds ahead for Citigroup, but there is really little evidence that Citigroup will gain or lose position relative to most other stocks. The company did show some positives in the fourth quarter, like an increase in corporate lending, improved credit quality and higher capital levels - and it is priced low. With a forward price to earnings ratio of 7.16, the company is priced at a discount compared to its peers - but that discount may be more owing to a lack of prospects for the company than an inefficiency in the markets. Citigroup is expected to significantly trail others in its industry in terms of earnings growth rates; the difference is 3.14 for Citigroup versus 35.48 its peers.
Rival Bank of America (BAC) is in an even worse position.
The company has had strong revenue growth, which translated into an increase in earnings per share. During the last fiscal year, Bank of America had a negative 2 cents EPS compared to a negative 38 cents in the previous year. Analysts are expecting the company's EPS will reach 65 cents a share for 2012 - but that is just an estimate.
There are a variety of reasons why the company may not make the mark. For one, it has a high gross profit margin at 75.50%, but its net profit margin is disastrously low. At just over 6%, its net profit margin falls strongly short of its peers. Bank of America has also had poor stock performance, losing over 60% during the 2011 calendar year compared to roughly flat returns for the market at large. Further, while its revenues have grown, its net income has not. All in all, the outlook just isn't there to make taking the risk of investment worth it, especially when compared to JP Morgan.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.