JPMorgan's (JPM) recent third quarter earnings has given financial investors something to cheer about. The investment banking giant was estimated to release earnings of $1.22 on revenue of $24.3 billion by analysts. Instead, JPMorgan reported earnings of $1.40 on revenue of $25.1 billion. This third quarter earnings beat was a huge sigh of relief for the banking giant as it continues to battle adversity.
JPMorgan still walks with the haunting memories of the "London Whale" and the $5 billion+ in trading losses, which prompted many analysts to cut forecasts and earnings expectations. Fortunately for JPMorgan, they have beaten analysts' earnings estimates all three quarters this year, so far. However, there continues to be additional issues that face JPMorgan and its peers as well.
Starting in late 2011, Iran has been expected of repeatedly launching cyber attacks against JPMorgan, Bank of America (BAC), Citigroup (C), Wells Fargo (WFC) and U.S. Bancorp (USB). However, these banks have reported a spike in attacks over the past few weeks, which makes investors uneasy. The worst part is that it could takes weeks if not months to fully recognize the true damage of these attacks and if there is one thing the markets hate, its uncertainty. On top of that, major US indices continue to show weakness, putting further pressure on the banks.
Despite some short term headwinds, I believe JPMorgan deserves a look with the long-term in mind. Here's why:
With current events aside, lets take a look at the fundamentals to gauge the company's valuation. The bank sports a market cap of $161 billion with 3.8 billion shares outstanding. Moving on to the meat of the valuation, the company shows a price to earnings ratio of 9, PEG of 1.26, price to sales of 2.8, price to book of .81 and a debt to equity of 3.54. Earnings are expected to grow 13% this year, 9% next year and 7% over the next five years. The company shows a return on equity of 10% and a dividend yield of 2.84%. Operating margins and profit margins look healthy at 14% and 12%, respectively.
JPMorgan is in line when comparing price to earnings, PEG, price to book, debt to equity and dividend yield to its competitors: Citigroup, Bank of America, Wells Fargo and U.S. Bancorp. However, I consider JPMorgan to be an industry leader and a safer choice in the banking sector, which ultimately tips the balance in favor of JPMorgan, in my opinion.
When looking at the largest impacts to its share price, JPMorgan sees sales and trading as its largest impact with 20.3% weight. A very close second is credit card services at 20.2%, followed by retail banking at 18%, mortgage unit at 14.1%, commercial banking at 11% and so on. It is important to review what divisions of a company affect the share price the most because it can help reveal information on a company such as its main priorities, risk tolerance, etc. When looking at JPMorgan we see the largest divisional impact comes from sales and trading. Unfortunately, sales and trading tend to be volatile and not always reliable as we saw with the London Whale and in general when the markets are hard to navigate. Luckily, I can take a deep breath as its second largest divisional impact comes from credit card services. The credit card division carries a lot less risk (when compared to trading) and represents a more conservative income source. It is always important to make sure there are divisions within a company that represent a more conservative source of income because when times are tough banks need to have fall back income sources when trading divisions can not perform to the level that they are used to.
Risks: Cyber Attacks and Lawsuits
As I had previously touched on earlier, JPMorgan and its competitors are under attack from cyber threats that US authorities say are coming from Iran. These cyber attacks are putting sensitive company information at risk as well as customers that use services with these banks. Unfortunately, we are still months away from determining the real damage of these attacks.
Officials up to date on the matter have said that these attacks are sophisticated on a level that is making these banks scrambling to defend themselves. To describe the hacks, hackers have been using a distributed denial of service program or DDoS, which essentially overloads company websites with traffic from computers that have been "hijacked". These attacks have allowed those involved to gain access to company servers, which is a major concern for the financial industry currently.
As if foreign threats were enough, JPMorgan was slapped with a lawsuit over mortgage securities tied to the bank's acquisition of Bear Stearns back in 2008. New York Attorney General Eric Schneiderman filed suit against JPMorgan on October 1st over mortgage securities that were sold by Bear Stearns.
Bear Stearns is accused of selling mortgage securities in 2006 and 2007 that had a higher investment grade then they really deserved. This resulted in investors losing more than $22.5 billion or a quarter of the original value of the mortgages. The kicker here is that JPMorgan is not involved in the accused fraud other than the fact that they own the Bear Stearns. Defenders of JPMorgan are criticizing the government for essentially stabbing JPMorgan in the back after the bank "did the government a favor" by taking over Bear Stearns at the beginning of the Great Recession of 2008. Furthermore, the bank says that the accused fraudulent activities happened before JPMorgan acquired Bear Stearns. I think JPMorgan has a chance to fight the charges but we will have to wait and see the outcome.
Currently, JPMorgan trades around $43 per share and I believe we will see this price fall over the course of the rest of 2012. The main reasons I see a correction are due to cyber attacks, government lawsuits, weak stock markets and the "fiscal cliff". Despite these events, investors should buy on dips with the long term in mind. As I said earlier, JPMorgan has had a rough year with trading losses, attacks, government lawsuits, etc. yet they have beaten analyst estimates all three quarters so far this year. This shows that the bank has solid revenue sources and great management, to name a few aspects.
JPMorgan is often seen as a leader in the investment banking industry with visionary leader, CEO Jamie Dimon at the wheel. Dimon received some criticism during the huge trading loss earlier this year but the CEO has continued to show he is more than qualified to lead the bank towards growth and prosperity.
The bottom line here is that while JPMorgan does face some short-term headwinds, I believe these events represent buying opportunities for a long-term holding. In addition, you receive that 2.84% yield while you wait for more favorable conditions.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.