The US financial sector surprised many at the end of the first quarter of the current year due to the pace of expense improvements, particularly at large cap banks. However, declining revenues due to lower net interest margins are still a concern, particularly at mid-cap banks.
Given the US housing recovery, increasing buybacks and attractive valuations, I have an attractive industry view for US banks. Also, a strong performance in the property and casualty insurance has led to a much more fairly valued group. I believe that you can expect positive pricing power among the property and casualty insurance group throughout this year. Therefore, Bank of America Corp (NYSE:BAC), Fifth Third Bancorp (NASDAQ:FITB) and Prudential Financial Inc (NYSE:PRU) are among my top picks.
Lesser compression in interest income
Fifth Third Bancorp (NASDAQ:FITB) remains one of the top picks coming out of the first quarter after demonstrating strong fundamentals, including loan growth, fee income and interest income. This was despite mid-cap banks facing strong headline pressures. You can expect the bank to sustain its above average profitability due to strong fundamentals, and expect the profitability and growth outlook to drive multiple expansions.
Among key drivers and catalysts for Fifth Third Bancorp (NASDAQ:FITB) is lesser compression in the bank’s interest income compared to its closest peers, due to stronger growth coupled with a slightly less net interest margin compression as most of the bank’s variable rate loans have already been repriced lower.
Further, the bank’s fee based income remains a source of revenue stability. It accounts for around 43% of the bank’s entire revenues versus a peer median of 28%. This will partially offset the anticipated decline in the bank’s mortgage banking revenues in the coming years.
Effective and continued cost savings
Bank of America Corp (NYSE:BAC) remains another top pick largely due to its improved cost savings and higher servicing revenues, while the bank is also accelerating settlements and payouts. Over the next three years, you can expect the bank to save as much as $16 billion after a cost saving acceleration takes place during the current quarter. Further, the bank’s Basel III Tier 1 capital ratio of 9.4% is already above the minimum requirement of 8.5%.
Among key drivers of growth for the bank include the bank’s cost saving initiatives. Bank of America Corp (NYSE:BAC) saved around $500 million during the first quarter alone, which makes the guidance of another $500 million, in cost savings over the next three quarters very conservative. Therefore, a guidance beat is evident and you can expect the total expense to come down by 10% sequentially.
Further, the bank has settled 3 class actions for $500 million relating to $350 billion of original unpaid principal balances and $95 billion of outstanding original unpaid balances. This is a positive as it implies that Bank of America Corp (NYSE:BAC) is accelerating settlements and the payouts are declining.
Recent acquisitions to be beneficial
Prudential Financial Inc (NYSE:PRU) reported very strong first quarter results. Each of the key divisions delivered results substantially ahead of expectations, suggesting the company is well positioned to meet or even exceed its goals. I view the company has an attractive growth and ROE expansion story due to its business mix, deal-related synergies and ongoing capital management. Having said that, I believe the stock has underperformed its peers, which is why I see substantial upside potential.
Among the three key drivers and catalysts that will be source of future growth are accretion of recent transactions, equity markets performance and the regulatory environment. The company’s future is greatly dependent on the management’s ability to integrate successfully recent transactions, while at the same time maintain the expense synergies.
The company’s performance to some extent is linked to the equity markets performance. Its variable annuity, retirement, and asset management operations are all equity sensitive. They all benefit if the markets perform better.
As far as the regulatory environment is concerned, it is believed that the company will be named by the Financial Services Oversight Committee as being systemically important, although implications for capital remain difficult to gauge.
Foolish takeaways
The aforementioned companies have performed better than their peers during the first quarter of the current year, and they have drivers and catalysts in place, which I believe will lead them to perform better during the coming quarters. Therefore, I am bullish on the aforementioned stocks.
Adnan Khan has no position in any stocks mentioned. The Motley Fool owns shares of Bank of America and Fifth Third Bancorp.
The article Growth And Expansion Stories in The Financial Sector originally appeared on Fool.com and is written by Adnan Khan.
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