These are interesting times, which is not always a good thing. You certainly don't have to tell investors in bank stocks how "interesting" these times have been, as bank stocks are down about 36% through the first two quarters of 2020. The outlook for banks is pretty "interesting" too, given the state of the economy.
But there are definitely some silver linings in the passing clouds if you know where to look. One of them is Ally Financial (ALLY 4.00%). While Ally hasn't fared any better than its peers through the crisis (its stock is down about 36% year to date), there are still some good reasons to consider adding it to your portfolio.
Deal or no deal?
First, a little background on this company is needed. Ally Financial is the nation's 17th largest bank with about $170 billion in assets. It was the former GMAC, or General Motors Acceptance Corp., which started as an auto financing company launched by General Motors. It soon expanded its services into car insurance, mortgage lending, and banking. The company rebranded as Ally Financial in 2010 and went public in 2014.
The first quarter was brutal for Ally as the company suffered a net loss of $319 million, down from a net profit of $374 million for the first quarter of 2019. Its earnings per share was negative $0.85, down from $0.92 per share the prior year. Revenue was $1.41 billion for the quarter, down 12% from a year ago. But the big hit came from setting aside $903 million for credit loan loss provisions in anticipation of an impact from the coronavirus pandemic. That provision was three times more than the previous year's quarterly provision.
The company remains adequately capitalized with a Common Equity Tier 1 (CET1) ratio of 9.3%, down from 9.5% in the first quarter of 2019, but well over the government-mandated minimum of 4.5%. CET ratios represent the bank's ratio of high-risk assets and provide some indication of a bank's ability to manage in a recession. Total liquidity at quarter's end was $30.1 billion, up slightly from $29.9 billion the end of 2019. Ally passed the Federal Reserve's 2020 stress test and announced that it is maintaining its quarterly dividend of $0.19 per share.
The stress test results did not factor in Ally's June 24 move to terminate its planned acquisition of Cardholder Management Services, a credit card and consumer finance provider. "Given the unprecedented economic and market conditions resulting from the COVID-19 global pandemic," Ally CEO Jeffrey Brown said, "[CardWorks founder] Don Berman and I, along with our boards of directors, believe it is in the best interests of our customers and stakeholders to terminate the agreement." Neither company will pay a termination fee as it was a mutual decision.
The termination was well received by analysts, who questioned the cost and the risk involved with the acquisition. Several analysts raised Ally's earnings and price targets on the news.
Why Ally is a buy
There are a few reasons why Ally stock looks like a buy, despite the difficult environment for banks. For starters, the bank is undervalued. The stock is trading at about seven times earnings and the price-to-book ratio is down to just 0.54 -- both below industry averages.
The bank has exhibited strong earnings and revenue growth over the last few years, outpacing the industry average. And as an online bank, it may have an advantage over its brick-and-mortar competitors during this time of social distancing.
However, Ally will be challenged in the near-term as a leading auto loan lender, dating back to its roots as GMAC. As new car sales dropped about 35% in the second quarter during the COVID-19 shutdowns, Ally will no doubt feel the pinch. But the second quarter, the worst since the Great Recession for new car sales, should be the bottom. For the year, analysts project that new car sales will be down about 20% year-over-year, so there should be a slow gradual improvement. Plus, used car sales have bounced back better than expected, down only about 5% from pre-COVID-19 levels. Ally has enough liquidity, especially after nixing the CardWorks deal, to ride out the downturn.
While growth will be muted over the near term, Ally Financial stock has already gained back about 35% over the last three months. It remains a great value for investors and, with good fundamentals and a track record of growth, it is a solid buy.