Today’s news: Annual bank stress test results will arrive in the coming days. Citigroup (C) joins the Growth & Income Portfolio with a Strong Buy recommendation.
Results of the annual Dodd-Frank Act stress test (DFAST) and the Comprehensive Capital Analysis and Review (CCAR) are due on June 21 and June 27, respectively, after the markets close. These tests examine large banks’ abilities to withstand disastrous economic scenarios and are focused on banks that have assets above $250 billion. If the banks are deemed strong enough, the Federal Reserve will then consider saying “yes” to banks’ capital return requests. In English, that means that banks are required to ask permission to increase dividends and repurchase stock, and the Federal Reserve is the taskmaster in that scenario. Watch for news on the Federal Reserve website.
The affected banks include Bank of America (BAC), Bank of New York Mellon (BK), Citigroup (C), Capital One (COF), Goldman Sachs Group (GS), JPMorgan Chase (JPM), Morgan Stanley (MS), Northern Trust (NTRS), The PNC Financial Services Group (PNC), State Street (STT), U.S. Bancorp (USB) and Wells Fargo (WFC). A few foreign banks also undergo these annual stress tests. About a dozen slightly smaller U.S. banks participate in alternate years, and are therefore not being assessed in 2019, although it’s common that they also announce capital returns at this time of year. Banks with assets below $100 billion are exempt from this assessment.
The general public is not privy to the amount of capital that banks desire to release, via increased dividends and share repurchases, until the results of CCAR are published.
Bank stocks are likely to see positive price action after revealing their new capital return plans next week. I frankly waited for yesterday’s Federal Reserve decision not to lower interest rates, prior to issuing this banking report, because a drop in interest rates could easily have suppressed share prices in the financial sector. Fortunately, interest rates remained stable and the stock market expressed no negativity whatsoever, despite widespread anticipation that the Fed had been poised to lower the fed funds rate. (I had not personally anticipated a drop in interest rates, though. It hadn’t seemed warranted.)
The path is now clear for me to recommend a bank stock that seems best positioned to capitalize on this year’s stress test results. I reviewed the 12 aforementioned large banks, including earnings outlooks, dividend yields, price charts, and Wall Street analyst notes on expectations for capital returns. The bank stock that reviewed most favorably was Citigroup (C), a stock that’s been biding time in my “waiting in the wings” list for many months. Citigroup operates globally, serving consumers, businesses, governments and institutions in 98 countries.
Citigroup will likely announce a large dividend increase next week, based on their track record of a 50% increase in 2017 and a 40.6% increase in 2018. For comparison, Target (TGT) announced a 3.1% dividend increase in June, and H & R Block (HRB) announced a 4.0% dividend increase, so you can see that a large double-digit increase is somewhat unusual. The current yield on Citigroup’s stock is 2.7%. A 25% increase in the dividend payout—which is a more conservative projection than the larger increases in 2017 and 2018—would take the current yield up to 3.3%.
In addition, Citigroup is expected to announce another round of share repurchases. The company repurchased approximately 23% of outstanding shares from year-end 2015 through the first quarter of 2019.
Citigroup is actively managing operating leverage, reflecting growth in the bank’s revenue outpacing growth in the bank’s expenses, largely as a result of successful technology initiatives and expense control. Consensus estimates point to revenue growing 2.1% and 3.2% in 2019 and 2020, from $72.9 billion to $76.8 billion.
Analysts are currently expecting Citigroup to grow earnings per share (EPS) by 13.8% and 13.3% in 2019 and 2020. Those earnings growth figures are much more attractive than expectations for all of Citigroup’s peers among this year’s DFAST/CCAR banks. The corresponding price/earnings ratios (P/Es) are 8.9 and 7.9.
C is a large-cap stock with a $156 billion market capitalization.
Citigroup’s price chart appears similar to many other large banks’ charts: the best of these stocks have been trading sideways for several months, were not greatly harmed during the May downturn in the broader market, and are trading above their 50- and 200-day moving averages. The good news surrounding next week’s capital return announcements could propel Citigroup’s stock higher.
I’m adding Citigroup to the Growth and Income Portfolio today with a Strong Buy recommendation. Buy C now to benefit from the attractive earnings outlook, dividend yield, attractive price chart, and the pending capital return announcement that could serve as a catalyst to immediate share price appreciation. The stock rose to 77 in January 2018 prior to the subsequent stock market corrections. I therefore expect C to meet price resistance on its next approach to 77, giving new investors a potential 14% capital gain during the next run-up in the share price. Strong Buy.