KeyCorp Is Well Positioned For 2018 And Beyond

Summary

• KeyCorp's Q4 2017 results were nothing to brag about, but the bank has great, long-term business prospects and several catalysts in place.
• This regional bank has a great, long-term story to tell, and the thesis is already playing out.
• KeyCorp is a long-term buy at today's price.

KeyCorp (NYSE:KEY) rarely ever gets mentioned when analysts talk about regional banks that have promising, long-term business prospects but, in my opinion, there is a lot to like about this Cleveland, Ohio-based company.

Source: Image

Let's also not forget that KeyCorp's stock has performed well over the last year, as KEY's shares are up ~14% while the SPDR Regional Bank ETF (KRE) is up only ~13% over the same period of time.

KEY data by YCharts

This regional bank has been a top performer for the R.I.P. portfolio, but I believe that the stock still has room to run. More specifically, KeyCorp has a great management team and it has the bank well-positioned for 2018 and beyond. Additionally, the bank is operating in an environment that has promising (and improving) long-term business prospects.

The Thesis

The operating environment for the U.S. banks, especially the regional banks, has greatly improved over the last two-plus years. Specifically, rising interest rates and business-friendly regulatory changes have created an environment that should lead to improving fundamentals for the regional banks for many years to come.

Interest rates have not moved as much as some pundits, including myself, were predicting a few years ago, but every little bit counts, especially when you consider the backdrop.

Source: Macrotrends, Fed Funds Rate Five-Year History

The upward movement only started in a more material way over the last 18 months, but the banks are already benefiting from the higher rates. To this point, KeyCorp recently reported a ~7% YoY increase in net interest income, excluding purchase accounting accretion ("PAA") for Q4 2017.

And more importantly, management mentioned during the Q4 2017 conference call that KeyCorp has the opportunity to greatly benefit from the additional interest rate hikes that are widely expected to occur over the next 12-18 months (i.e., each 25 bps rate increase by the Fed could potentially add $12M per quarter in net interest income).

Furthermore, as I described in "KeyCorp: A Well-Managed Bank That Is Still Worth A Look", the regulatory environment for the U.S. banks is becoming more favorable on what seems like an almost daily basis. In addition, the Senate recently passed a bill that would increase the asset level for the systemically important financial institution, or SIFI, designation from $50B to $250B. This bill would prevent KeyCorp from needing to comply with some of the burdensome rules/regulations that were put into place after the Financial Crisis. In my opinion, this rule change has the potential to be a real game-changer for KeyCorp.

Simply put, KeyCorp is a well-managed bank that is properly positioned to benefit from several long-term catalysts: (1) Rising rates, (2) positive changes to the regulatory environment, and (3) cost/revenue synergies from the First Niagara assets.

The Latest

On January 18, 2018, KeyCorp reported mixed Q4 2017 financial results, as the bank's revenue came in above estimates ($1.61B vs. $1.58B), but the quarterly EPS was only in line with estimates ($0.36). KeyCorp's Q4 2017 results were nothing to brag about, even after factoring in the impressive First Niagara integration achievements (ahead of schedule on both cost and revenue synergy targets), but several key metrics were better than what was reported in the same period of the prior year.

There was definitely some in the numbers but, looking forward, there is a lot to like about KeyCorp's near-term prospects.

And let's not forget that the bank's long-term targets support the thought that KeyCorp is in a great position to prosper from the changing environment, if you are willing to look out past the next 12-18 months.

As shown, management anticipates KeyCorp to continue to drive positive operating leverage - it should be noted that 2017 marked the fifth consecutive year of positive operating leverage - while also improving the bank's return on equity prospects.

The key takeaway from KeyCorp's Q4 2017 results is the fact that this regional bank has a promising growth profile, in addition to having an experienced and capable management team in place. Moreover, I believe that Ms. Beth Mooney, CEO, and team will have the opportunity to pull several different levers (e.g., additional cost/revenue synergies and capital return potential) that could potentially create a tremendous amount of shareholder value.

Valuation

Even after KeyCorp's strong stock performance, shares are still trading at an attractive valuation when compared to peers.

KEY PE Ratio (Forward) data by YCharts

On the other hand, KeyCorp is trading more in line with its peers based on P/Bv and P/TBv.

KEY Price to Book Value data by YCharts

KeyCorp has a great setup, and the regional banks should benefit from the positive changes that are occurring. So, in my opinion, KEY's shares are worth a look in the lower $20 range.

Risks

The banking industry has promising prospects in 2018, but a significant downturn in the economy would negatively impact KeyCorp's business. I do not believe that a recession is likely over the next 12-18 months, but things could change quickly.

Integration risk is another important factor that investors should consider for KeyCorp. Management has talked up the First Niagara acquisition so far, and I tend to agree with its assessment of the deal up until this point in time, but there is no guarantee that the acquired assets will be a strategic fit for KeyCorp through 2019 and beyond.

Bottom Line

KeyCorp does not get much attention in the market, but that does not mean that the bank will continue to fly under the radar forever. Investor sentiment has already started to change in a positive way and, in my opinion, analysts will begin to jump on board if management's financial targets are achieved. So, you may want to get out ahead of the herd.

I believe that almost all signs are pointing toward KeyCorp being a market beater over the next few years, so I believe that investors with a long-term perspective should treat any pullbacks, especially if they are created by broader market selloffs, as buying opportunities.

Author's Note: All images were obtained from KeyCorp's Q4 2017 Earnings Presentation, unless otherwise stated.

Disclaimer: This article is not a recommendation to buy or sell any stock mentioned. These are only my personal opinions. Every investor must do his/her own due diligence before making any investment decision.

Disclosure: I am/we are long KEY. 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.