Great Time To Load Up On JP Morgan

The sell-off earlier last week created a great opportunity to load up on shares of JP Morgan at $64/share. I believe the media is underplaying what is happening in China. China is see a slowing down in demand for its exports. The Chinese are also seeing a collapse in exports to Europe and the U.S. Lots of U.S. companies are going to see massive problems in the third quarter.

The question investors should ask themselves is whether JP Morgan's business value been changed by the sell-off?

I believe that JP Morgan's underlining business value has not been changed by the sell-off.

JP Morgan is still one of the most profitable banks in the country with little exposure to China.

This lack of exposure will shield the company's earnings from the woes in China. I also believe that the Fed will raise rates in September because JP Morgan and other larger banks want a normalization of interest rates. Under a normalization of interest rates, JP Morgan would see earnings per share of $7.28/share

The company is one of the best managed and profitable banks in the world. From consumer banking to investment banking, JP Morgan stands out in every aspect of its business compared to the firm's competitors. It is the largest bank in the world with $2.4 trillion dollars in assets under its helm. JP Morgan operates in 60 countries and has been in business for over 200 years. Even after paying out $24 billion dollars in SEC fines for wrongdoing by Bear Stern and Washington Mutual, which the firm acquired in 2008, the firm was still profitable and the fines didn't hurt JP Morgan's earnings power.

JP Morgan provides its services through more than 5,000 branches and 18,000 ATM's. The bank has over 19 million active mobile users, who access numerous JP Morgan services through their phones.

JP Morgan has four business units:

The CCB business unit is the largest segment of revenue for JP Morgan, making up 46% of the company's total revenues. This is followed by CIB, which makes up 34% of total revenues, while the remaining two units contribute 12% and 7% respectfully. JP Morgan has been growing its deposits at an annual compound rate of 8%. The company is seeing headwinds from ligation from Government and higher Basil III capital requirements. JP Morgan is being forced to raise its equity capital by $15 billion by 2019. This will lead to compression in JP Morgan's return on capital for the next couple of years. I believe that the fed won't raise rates in September, which will probably lead to a sell off in bank stocks. Banks like JP Morgan have been interest rate starved over the last 7 years due to the zero interest rate environment.

If I'm wrong and the Fed doesn't raise interest rates in September, JP Morgan will still be profitable. The only downside is that JP Morgan's economic earnings power will continue to be compressed. If the Fed starts to lift the interest compression off U.S. banks, then we will see banking profits move upwards. Even if short-term rates are raised 250bp and long-term rates are raised 150bp, this would add more than a $1 billion dollars to JP Morgan's pre-tax earnings. It would also result in boosting JP Morgan's return on CET1 Capital by 0.5% points. Raising interest rates a little bit would have an overall positive results for U.S. banks.

Under the Fed's normalization of interest rates, JP Morgan would see $30 billion in earnings in 2017. When you subtract $1.1 billion in preferred shares dividends and other distributions to shareholders would result in $28 billion in earnings in 2017. On a per share basis, JP Morgan could produce $7.57/share. Before the financial crisis JP Morgan traded at a P/E of 12x. If interest rates rise and JP Morgan trades for 12x its earnings, shares would sell for $91/share.

The $91/share value depends on the Fed raising rates in September, but even without the normalization, JP Morgan is undervalued at its current price of $59/share. Due to what is happening in China, JP Morgan is selling for 7.6x its operating earnings of $7.8/shares and 7.3x its 10-year average operating earnings of $8.04/share. At a reasonable multiple of 10x, JP Morgan's value is between $78.40/share and $80.04/share. If the Fed doesn't raise rates, shares of JP Morgan at its current price are undervalued.
Published on Aug 31, 2015
By Cody Eustice
Cody is a freelance writer who has been writing financial articles for various sites for over a year now. He is a value investor looking for companies that sell for far less than their estimated business value.

Copyrighted 2020. Content published with author's permission.

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