This note includes our review of earnings from Wells Fargo (WFC) and our ratings change from yesterday for Credit Suisse (CS) from Buy to Sell.
Next week, Mattel (MAT) and Nokia (NOK) report earnings, followed by the earnings deluge which starts the week of July 25th when 13 companies report.
The Cabot Turnaround Letter is traveling this week, so we will not be including a podcast in this update.
Earnings update
Wells Fargo & Co. (WFC) – Wells Fargo is one of the nation’s largest banks. Under its previously weak leadership, the company never fully recovered from the 2009 financial crisis and its loose compliance culture led to a fake accounts scandal and other reputation-tarnishing problems. Also, like all banks, it is struggling with low interest rates and limited loan growth, although the much-feared pandemic-related loan losses no longer look likely. An additional constraint is a regulator-imposed cap on Wells Fargo’s asset size. Under new CEO Charles Scharf, the bank is aggressively restructuring its operations, cost structure and regulatory compliance.
Wells reported mixed second-quarter results. Revenues fell 16% and were about 3% weaker than the consensus estimate. Adjusted earnings of $0.80/share fell 42% from year ago but were about 3% above estimates. However, the bank is making good progress with its turnaround, is prospering in the rising interest rate environment, its core fee income in aggregate has remained relatively stable and it’s well-capitalized, which allows for dividend increases and share buybacks. The shares remain considerably undervalued.
Net interest income, which represents the profits from lending, rose a surprisingly strong 16%. Higher interest rates helped boost the net interest margin to 2.39% from 2.02% a year ago, while loan balances rose 8%. The bank provided encouraging commentary that this source of profits is likely to remain robust and “more than offset any further near-term pressure on non-interest income.”
Non-interest income, which includes everything from checking account fees to trading profits to merger and acquisition fees, as well as gains from their venture capital/private equity businesses, fell 40%. However, most categories of fees remained relatively steady compared to a year ago. The largest drivers of the decline were lower mortgage banking revenues and weak results in the Corporate group, which reflected assets sales, crediting rates and write-downs in their VC/PE operations. The core of the bank’s fee business generally remains strong – the ancillary Corporate operations will likely have volatile results that ideally average to zero, at worst, over time.
Credit quality remains solid. The bank’s losses ticked up from a very low level, and it added incrementally to its credit reserves to reflect its growing loan balances. Consumers continued to make mortgage payments after Covid-related relief expired, which reduced the volume of non-accruing loans.
Operating expenses fell 3%. Wells seems to be getting its expense base under control as it reduces its outside consultant fees and improves its internal efficiency. The bank remains burdened by elevated legal costs and various remediation spending due to its prior lax compliance culture.
Capital remains healthy but fell to a CET1 capital ratio of 10.3% from 12.1% a year ago. Nevertheless, the bank’s Fed stress test results will allow it to repurchase shares as well as raise its dividend (which it previously announced).
Ratings change
Yesterday, we moved shares of Credit Suisse (CS) from Buy to Sell.
As we have spoken about in recent weeks, our patience with the pace and likelihood of positive changes in the bank’s leadership, risk management, tactical execution and strategic direction have been wearing thin. Today, our patience has expired. The slim chance of a turnaround and recovery is more than offset by the risk of an implosion which could drive the shares toward zero.
Our view has crossed into “time to sell” due to the accelerating pace of changes in securities prices across the board – stocks, bonds, currencies, commodities and private/alternative assets. Inflation has moved from mild to high and persistent with remarkable speed. This rapid acceleration is forcing the Fed and many other central banks into faster and bigger interest rate increases. In turn, this is creating exceptionally large price and direction divergences across capital markets, and rapidly changing economic conditions, in ways that greatly increase the risks to banks like Credit Suisse.
Some banks, like JP Morgan, are exceptionally well managed, technologically advanced, tightly risk controlled and have solid balance sheets, and will readily survive. Yet even JPMorgan is starting to feel the capital markets’ stresses and is preparing for more stresses. A chronically mismanaged, technologically lagging, uncontrolled-risk bank like Credit Suisse, whose balance sheet may well contain sizeable old and new losses would seem to have little chance of recovery, let alone prosperity.
We regret having to take the approximate 55% loss on this investment, but Credit Suisse has a real chance of completely imploding. The slim chance for a turnaround from here, and the potential upside should this happen, is not worth the risk of an implosion.
Comments on other Recommended stocks:
Molson Coors Beverage Company (TAP) – With Budweiser has given up its long-running exclusive rights to Super Bowl advertising, Molson Coors will run its first ads during the game for the first time in decades. This change adds to the positive fundamental story at Molson Coors.
Please know that I personally own shares of all Cabot Turnaround Letter recommended stocks, including the stocks mentioned in this note.
Please feel free to share your ideas and suggestions for the podcast and the letter with an email to either me at bruce@cabotwealth.com or to our friendly customer support team at support@cabotwealth.com. Due to the time and space limits we may not be able to cover every topic, but we will work to cover as much as possible or respond by email.
| Market Cap | Recommendation | Symbol | Rec. Issue | Price at Rec. | 7/14/22 | Current Yield | Current Status |
| Small cap | Gannett Company | GCI | Aug 2017 | 9.22 | 2.59 | - | Buy (9) |
| Small cap | Duluth Holdings | DLTH | Feb 2020 | 8.68 | 9.36 | - | Buy (20) |
| Small cap | Dril-Quip | DRQ | May 2021 | 28.28 | 23.26 | - | Buy (44) |
| Small cap | ZimVie | ZIMV | Apr 2022 | 23.00 | 17.44 | - | Buy (32) |
| Mid cap | Mattel | MAT | May 2015 | 28.43 | 21.70 | - | Buy (38) |
| Mid cap | Conduent | CNDT | Feb 2017 | 14.96 | 4.03 | - | Buy (9) |
| Mid cap | Adient plc | ADNT | Oct 2018 | 39.77 | 27.93 | - | Buy (55) |
| Mid cap | Lamb Weston Holdings | LW | May 2020 | 61.36 | 73.95 | 1.3% | Buy (85) |
| Mid cap | Xerox Holdings | XRX | Dec 2020 | 21.91 | 13.88 | 7.2% | Buy (33) |
| Mid cap | Ironwood Pharmaceuticals | IRWD | Jan 2021 | 12.02 | 11.87 | - | Buy (19) |
| Mid cap | Viatris | VTRS | Feb 2021 | 17.43 | 9.85 | 4.9% | Buy (26) |
| Mid cap | Organon & Co. | OGN | Jul 2021 | 30.19 | 31.85 | 3.5% | Buy (46) |
| Mid cap | TreeHouse Foods | THS | Oct 2021 | 39.43 | 44.23 | - | Buy (60) |
| Mid cap | Kaman Corporation | KAMN | Nov 2021 | 37.41 | 28.25 | 2.8% | Buy (57) |
| Mid cap | The Western Union Co. | WU | Dec 2021 | 16.40 | 16.13 | 5.8% | Buy (25) |
| Mid cap | Brookfield Re | BAMR | Jan 2022 | 61.32 | 43.36 | 1.3% | Buy (93) |
| Mid cap | Polaris | PII | Feb 2022 | 105.78 | 107.48 | - | Buy (160) |
| Mid cap | Goodyear Tire & Rubber | GT | Mar 2022 | 16.01 | 10.83 | - | Buy (24.50) |
| Mid cap | M/I Homes | MHO | May 2022 | 44.28 | 43.42 | - | Buy (67) |
| Mid cap | Janus Henderson Group | JHG | Jun 2022 | 27.17 | 22.99 | 6.8% | Buy (67) |
| Mid cap | ESAB Corp | ESAB | Jul 2022 | 45.64 | 39.71 | - | Buy (68) |
| Large cap | General Electric | GE | Jul 2007 | 304.96 | 61.09 | 0.5% | Buy (160) |
| Large cap | Shell plc | SHEL | Jan 2015 | 69.95 | 46.14 | 4.3% | Buy (60) |
| Large cap | Nokia Corporation | NOK | Mar 2015 | 8.02 | 4.46 | 2.0% | Buy (12) |
| Large cap | Macy’s | M | Jul 2016 | 33.61 | 16.26 | 3.9% | HOLD |
| Large cap | Credit Suisse Group AG | CS | Jun 2017 | 14.48 | 5.11 | 5.1% | SELL |
| Large cap | Toshiba Corporation | TOSYY | Nov 2017 | 14.49 | 19.05 | 3.4% | Buy (28) |
| Large cap | Holcim Ltd. | HCMLY | Apr 2018 | 10.92 | 8.21 | 5.4% | Buy (16) |
| Large cap | Newell Brands | NWL | Jun 2018 | 24.78 | 18.91 | 4.9% | Buy (39) |
| Large cap | Vodafone Group plc | VOD | Dec 2018 | 21.24 | 15.15 | 6.7% | Buy (32) |
| Large cap | Kraft Heinz | KHC | Jun 2019 | 28.68 | 38.76 | 4.1% | Buy (45) |
| Large cap | Molson Coors | TAP | Jul 2019 | 54.96 | 58.18 | 2.6% | Buy (69) |
| Large cap | Berkshire Hathaway | BRK.B | Apr 2020 | 183.18 | 274.41 | - | HOLD |
| Large cap | Wells Fargo & Company | WFC | Jun 2020 | 27.22 | 38.74 | 3.1% | Buy (64) |
| Large cap | Western Digital Corporation | WDC | Oct 2020 | 38.47 | 46.01 | - | Buy (78) |
| Large cap | Elanco Animal Health | ELAN | Apr 2021 | 27.85 | 19.61 | - | Buy (44) |
| Large cap | Walgreens Boots Alliance | WBA | Aug 2021 | 46.53 | 36.86 | 5.2% | Buy (70) |
Disclosure: The chief analyst of the Cabot Turnaround Letter personally holds shares of every Rated recommendation. The chief analyst may purchase securities discussed in the “Purchase Recommendation” section or sell securities discussed in the “Sell Recommendation” section but not before the fourth day after the recommendation has been emailed to subscribers. However, the chief analyst may purchase or sell securities mentioned in other parts of the Cabot Turnaround Letter at any time.Please feel free to share your ideas and suggestions for the podcast and the letter with an email to either me at bruce@cabotwealth.com or to our friendly customer support team at support@cabotwealth.com. Due to the time and space limits we may not be able to cover every topic, but we will work to cover as much as possible or respond by email.