If you are looking for a true growth stock in the banking sector, then look no farther than the $163 billion asset SVB Financial Group (SIVB +0.00%), the parent company of Silicon Valley Bank. The bank, based in Santa Clara, California, pioneered start-up banking in the 1980s, and it also caters heavily to the private equity and venture capital communities.
Growth stocks generate revenue and earnings that increase at a higher rate than the industry average, and SVB definitely meets this definition. Over the last four quarters, the bank has not generated less than a 20% return on equity each quarter, the technical rate of return a company makes on its capital from stockholders.
SVB stock should continue to perform well, despite its already high valuation. Here's why.
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Above-average growth
Whether you look at loans, deposits, fee income, or profits, this business is growing at just a ridiculous pace. Total assets at SVB have nearly doubled over the last year. A large part of that is due to deposit growth. The bank has grown period-end deposits by more than $70 billion over the last year, and a lot of those are zero-cost, sticky non-interest-bearing deposits, which the bank pays no interest on. SVB is benefiting from the strong performing innovation sector, and the massive amount of liquidity in the private equity and venture capital space. The bank is now projecting 2021 full-year average deposit growth to be up in the high-80 percentages from 2020, not including its recent acquisition of Boston Private Financial Holdings.
Additionally, SVB continues to grow loans during a time when much of the industry can't find much loan growth at all. Average loan balances are up nearly 8% from the first quarter of the year and 36% from the second quarter of 2020. As I mentioned earlier, SVB is a niche lender in the private equity and venture capital space, offering these companies a somewhat niche lending product called capital call lines of credit. These are short-term loans to venture capital and private equity companies that are trying to execute quickly on investments they are making in start-ups or businesses. These lines carry an interest rate that is more attractive than investment securities and that have also had practically no losses since the product was created.
The results really speak for themselves. Net interest income, which is essentially the profits made on loans and securities, increased 10% from the first quarter. This happened despite the fact that the bank's net interest margin, the difference between what the bank makes on interest-earning assets such as loans and securities and pays out on interest-bearing liabilities such as deposits, fell from 2.29% in Q1 to 2.06% in Q2. This shows that even in the low-rate environment, SVB is able to get enough loan volume and buy enough securities to overpower the lower margins. The bank is projecting average loan growth for the full year to grow in the mid-30 percentages from 2020, while net interest income is projected to be up in the low-40 percentages.
SVB also has an incredibly powerful stream of fee income that has generated more revenue than the bank's lending business in the last four quarters. The bank has solid core fee income that encompasses most typical banking fees and then other fee income lines such as foreign exchange and credit card fees. Silicon Valley Bank also has developed a strong investment bank that specializes in the healthcare and life sciences sector and continues to perform well. The bank also makes a ton of money from warrants and equity investments it earns when it banks early-stage companies that most banks will not service. When some of these start-ups go public or get acquired later on, the bank cashes in on those warrants and investments. For instance, the bank sold shares that it obtained from a warrant in the crypto exchange Coinbase Global for $166 million.
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Well-positioned for the future
While the tech sector tends to thrive in low-rate environments, with lots of tech investment from venture capital and private equity firms, as well as initial public offerings for tech companies, SVB is still well-positioned to succeed in a rising rate environment. For one, its balance sheet is asset sensitive, meaning that more of its assets reprice with interest rates than its liabilities such as deposits. Every time the Federal Reserve raises its fed funds rate by 0.25%, SVB will realize an additional $110 million in net interest income.
The bank's recent acquisition of Boston Private helps SVB instantly build scale in the wealth management space, and management believes it presents a $400 billion opportunity over time. Boston Private also will help SVB to grow in the mortgage and specialty lending segments.
Lastly, the tech sector has really benefited from the pandemic in that it has forced further digital adoption in so many more facets of people's daily lives. Management believes the tech sector is now more than ever the place to be for investment, and with the development of the investment bank and now the acquisition of Boston Private, management also believes it has the full product suite in place to fully accommodate its clients and target market.
When you look at the earnings power of the company, the guidance for this year, and the momentum in the business, it's easy to see that SVB is a true growth stock that should produce outsize returns going forward.
