Owning banking and financial services stocks headed into a recession isn't ideal. With a month left to go in 2020, the Dow Jones U.S. Banks and Financial Services indices are down 22% and 6% respectively. The S&P 500, by contrast, has managed to claw its way out of the hole it was in back in March and is up 13% year-to-date.
SVB Financial Group (SIVB.Q 11.11%) -- better known as Silicon Valley Bank -- has handily thrashed all of those indices with a 37% return so far in 2020 and is near all-time highs. This is still my favorite banking play, and my plan is to keep adding more.
A disruptive wave of new businesses, and a bank suited to their needs
As fellow Fool.com contributor Bram Berkowitz recently pointed out, SVB has a unique product at its disposal thanks to the specific needs of its customer base: The start-up and venture capital community, embodied by its home market in Silicon Valley, California. Besides a generally fragile economy upended by COVID-19, banks are struggling with incredibly low interest rates and weak demand for commercial borrowing. That caps their ability to earn income from interest payments.
SVB itself is also dealing with this low-interest-rate environment in its basic banking services. However, it offers short-term lines of credit to venture capitalists and other disruptive start-up companies, and the interest rates on these short-term loans are far higher than average going rates for other short-term loans these days. In fact, as the tech-centric start-up world fired up again quickly after the spring 2020 economic lockdown, exposure to these fast-moving businesses has been a key differentiator for SVB.
That shows up in its third-quarter 2020 results. SVB's operating efficiency ratio (non-interest expenses divided by net revenue) was back to pre-pandemic levels, leading to record quarterly net income of $442 million. Clearly, this bank's select focus on serving disruptive up-and-coming companies affords it some more control over its destiny than larger banks that are more prone to effects from the economy at large.
Attractively priced given the potential
Granted, it is worth noting that SVB did get a big boost in the last quarter from the IPO of e-commerce software firm BigCommerce. But while this was a one-time item, therein lies another reason I like this bank stock: Its sizable portfolio of private company investments, managed venture capital funds, and publicly traded business investments as some of those early-stage bets go public (like BigCommerce). If getting in early on private equity interests you, SVB should be top of mind.
Even after its run-up in price this year, SVB stock trades for an attractive 17 times trailing 12-month earnings per share -- a figure that includes a tough first half of 2020 due to pandemic effects. SVB doesn't pay a dividend, but its freeze on share repurchases (put in place while it worked through the economic crisis) expired at the end of October. Put simply, shares trading near all-time highs doesn't worry me.
While other banks are under attack from digital wallets and other financial technology, SVB Financial has unique attributes that put it on solid footing. It doesn't pay a dividend as many other traditional banks do, and that might be a negative for investors looking to plop some money down on this battered sector. But given its rock-solid balance sheet and built-in growth potential from its fast-moving customer base, the long-term potential more than makes up for the lack of dividend payout. I've been a buyer of SVB Financial Group all year, and I remain so headed into 2021.