Synchrony Financial Has Risks To Its Story, But There Are Reasons To Stay Long

Summary

• Synchrony Financial's stock has underperformed the broader market over the last year.
• The company is operating in a challenging business environment, but I believe that the risks are baked into the stock.
• I am long Synchrony Financial and I plan to stay long the stock.
• This idea was discussed in more depth with members of my private investing community, Going Long With W.G.. Start your free trial today »

Synchrony Financial's (NYSE:SYF) stock is down big over the last year, as SYF shares are now approaching levels not seen since the mid-2014 IPO.

SYF data by YCharts

More recently, Synchrony's stock has been under pressure due to the loss of a major customer, Walmart (WMT), but I believe there are reasons to stay long SYF shares, even in today's "challenging" environment.

A Challenging Environment, A Possible Slowdown Adds Risk To The Story

The risks of a recession have increased over the last few months with the probability of a U.S. recession now at a six-year high.

Source: Bloomberg

The trade war and the U.S. shutdown have been the main discussion points over the last month, and rightfully so, but it is important to note that experts still expect for U.S. GDP growth to be over 2%.

Source: stlouisfed.org

While U.S. GDP growth is expected to slow in 2019 from the over 3% in 2018, in my opinion, an above 2% guide should be viewed as positive news. Moreover, consumer strength is important to Synchrony's business prospects so it is encouraging that the CCI reading is still well-above 100, even after the recent dip.

Source: OECD.org

At the end of the day, even after factoring in a possible economic slowdown in 2019, I believe that there are legitimate reasons to stay long Synchrony's stock.

Reasons To Remain Long

Over the last two years, Synchrony's stock has been positively and negatively impacted by a few major factors:

1. Asset Quality (negative) - As described here, the market has been concerned about Synchrony's deteriorating asset quality metrics, and rightfully so. The metrics - i.e., 30+ Days Past Due, Net Charge-Offs, 90+ Days Past Due, and Allowance - have each raised questions about the quality of Synchrony's asset portfolio.
2. Walmart News (negative) - The loss of Walmart's business hit SYF shares hard, as Synchrony has been in a partnership with this retailer (the largest retailer at that) for years.
3. PayPal News (positive) - As described here, PayPal (PYPL) and Synchrony entered into an expanded business relationship to service receivables. Synchrony received almost $6B in PayPal receivables and the companies agreed to expand their business relationships, which is important for Synchrony given PayPal's dominant position in the payment space.
4. Berkshire News (positive) - It always helps to have Buffett being a buyer of your stock. As such, SYF shares faced upward pressure after Warren Buffett's Berkshire Hathaway (BRK.A)(BRK.B) disclosed that they added to their Synchrony position. As of Q3 2018, Berkshire held approximately 20M shares of Synchrony Financial.

For the asset quality concerns, Synchrony implemented new underwriting techniques several quarters ago so investors should expect for the metrics to improve through 2019, barring a market meltdown. Additionally, management laid out two potential avenues that they can take to "make up for" the lost Walmart business.

Source: Q2 2018 Earnings Presentation

SYF shares have been volatile for an extended period of time, but, looking ahead, I believe that there are three main reasons to stay long the stock:

A Promising Backdrop

Synchrony is the largest U.S. private-label credit card company and it operates in an industry that has promising long-term prospects. For example, the increase in credit card transactions far outpaced the growth for other payment types.

Source: 2018 Nilson Report

Moreover, Synchrony has been able to outgrow its competitors in several key markets over the years.

Source: Synchrony's 2018 Investor Presentation

Additionally, it often gets lost in the discussion, but I believe that Synchrony's ambitions to grow into a full-service online bank has the potential to be a major catalyst for the stock.

Source: Synchrony's 2018 Investor Presentation

I believe that Synchrony will be able to leverage its large (and growing) deposit base to grow its business in 2019 and beyond.

Valuation

Synchrony's stock is attractively valued when compared to its peers.

SYF PE Ratio (TTM) data by YCharts

And SYF shares are also trading at attractive levels based on historic metrics.

SYF PE Ratio (TTM) data by YCharts

Simply put, Synchrony's stock is cheap under 10x earnings. Moreover, if you ask me, the risk of an economic slowdown is likely baked into the stock price.

Capital Return Story

Synchrony has become an extremely shareholder-friendly company. For example, management has bought back a ton of stock over the last three years.

SYF Shares Outstanding data by YCharts

Plus, the company still has approximately $1.2B out of the $2.2B that was authorized to be repurchased through the four quarters ending June 30, 2019.

Additionally, the company's board recently increased its quarterly dividend by 40% (from $0.15 to $0.21) and, more importantly, there is room for the payout to rise in the years ahead.

Source: Fidelity

Risks

Synchrony Financial's asset quality concerns could come back into focus in 2018 and the bull case would definitely be negatively impacted if this were to happen. The company's charge-off rates have been creeping higher over the last year, but I do not believe that this is a major risk, at least at this point in time. I would, however, closely monitor Synchrony Financial's asset quality metrics through at least 2019.

Lastly, additional key partnership losses would have a significant impact on Synchrony's business prospects.

Bottom Line

There are risks to Synchrony's story, but this company has great long-term business prospects. I highlighted three reasons why investors should consider staying long the stock, but, most importantly, management has this private-label credit card company well-positioned for 2019 and beyond.

The stock may remain volatile in the new year, but, in my opinion, investors with a time horizon longer than 1-to-2 years should treat any significant pullbacks as long-term buying opportunities.

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 SYF. 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.