This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." So you might think we'd be the last people to give virtual ink to such "news." And we would be -- if that were all we were doing.

But in "This Just In," we don't simply tell you what the analysts said. We'll also show you whether they know what they're talking about. To help, we've enlisted Motley Fool CAPS, our tool for rating stocks and analysts alike. With CAPS, we track the long-term performance of Wall Street's best and brightest -- and its worst and sorriest, too.

And speaking of the best ...
What do you do when one of the savviest stockpickers on the planet abruptly changes its stance on one of the hottest stocks of the consumer credit boom? Personally, I listen up -- and from what I hear, Stifel Nicolaus believes it's time to put Capital One (NYSE:COF) back in your wallet (or at least, your portfolio.)

Arguing that a drop in debt delinquencies could do wonderful things for Capital One's income statement, Stifel upgraded the shares to "buy" yesterday. Says Stifel, Capital One has "creatively repriced its credit card offerings" to preserve profits even under the new constraints of Congressional "CARD Act" legislation. And with the stock now selling for mere single-digit multiples to what (Stifel thinks) it will earn in coming years, the banker believes now's the time to buy Capital One. Is Stifel right?

Let's go to the tape
At first glance, you might not think so. The plain and painful fact of the matter is that when it comes to picking winning banking stocks, this particular banker hasn't always been the brightest. To the contrary, Stifel has made repeated bad bets on the likes of:

That said, when it comes to plastic purveyors in particular, Stifel demonstrates that it really does know which side of a credit card is the shootin' end:

Most tellingly, Stifel has recommended buying Capital One twice in past three years -- losing to the market in 2007, but making back those losses (and more) with a brave bet in the face of a messy market in March 2009. Result: The banker's ahead of the game by some 50 percentage points on this one.

And I think Stifel can do it again.

Buy the numbers
Priced at less than 0.7 times its own book value, Capital One sells for just a fraction of what investors have been willing to pay for card companies like AmEx, MasterCard, Visa -- even the much-maligned Discover. (Then again, each of these companies is profitable -- which Capital One most definitely is not.)

That said, Stifel's record in the credit card space gives us some reason to believe it when the banker suggests Capital One can earn $2.86 per share this year (giving it a 14 times multiple to current-year earnings), then go on to surpass its "normalized" earnings rate of $5.50 per year and earn as much as $6.10 per share in 2012 -- a more-than-doubling of profit in the space of three short years. If Stifel's right, this suggests a stock selling for less than seven times the amount of profit it will be churning out just three years hence.

Optimistic? No doubt -- and Stifel's very much out on a limb in taking this view. Judging from the stock's 0.7 price-to-book ratio, it seems few investors share Stifel's confidence that Capital One can return to its glory days. Not only is this P/B a mere fraction of the valuations attached to most other companies in the credit card-o-sphere -- it's also a mere shadow of Capital One's old self. For most of the past decade, Capital One commanded a P/B ratio several times higher -- 2.5 times book.

Foolish takeaway
Make no mistake, dear Fool: Stifel is placing a very big, and very risky bet here. If it's right, investors in Capital One today could be looking at multi-bagger returns as Capital One rights its ship, proves its outstanding loans are solid, and begins earning beaucoup profits thereon. If it's wrong, though ... we could be looking at a P/E of "N/A" for years to come -- and precious few profits for our portfolios.

Personally, I believe the potential gains justify taking the risk -- but that's just my opinion. If you've got a different one, we've got a place to state your case. Scroll down, and tell me why I'm wrong.