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Buy This Value Stock Before Everyone Else Does

By James Brumley – Jan 10, 2022 at 9:04AM

Key Points

  • Latin America's secular growth and economic maturing presents significant opportunity.
  • As brisk as 2021's M&A activity was, this year is expected to be just as busy on the investment banking front.
  • Rising interest rates should improve profit margins for any financial name in the lending business.

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The market's mostly missing just how well-positioned this well-heeled investment bank is as we drive deeper into 2022.

Like bargains? Most people do, including investors. Why pay a steep price for anything -- including a stock -- when you don't have to? The catch is simply making the purchase before anyone else figures out the great deal that's on the table.

With that as the backdrop, value-minded investors may want to snatch up shares of Goldman Sachs (GS 0.13%) while they can do so on the cheap. The stock's rally, which started in early 2021, has been stalled for several months now, but as we move into 2022, the big financial outfit could see its stock start to rise again as a trio of tailwinds converges.

Person comparing a value and cost chart.

Image source: Getty Images.

Oddly underpriced

You know the company. Indeed, it's practically royalty within the investment banking realm. While the Goldman Sachs name may not enjoy the prestige it had in the midst of Wall Street's heyday of the late 1990s and early 2000s, it's a name that still turns heads.

It's not exactly thrilling the market at this point in time, however.

Despite what's lining up to be an incredible fiscal 2021 that yields a record-breaking full-year profit of $59.89 per share, the market's only pricing the stock at 6.4 times its trailing earnings -- a price-to-earnings ratio that's so low it would usually be considered an indication of trouble.

That ultra-low valuation may have much to do with what analysts believe lies ahead. For 2022, earnings are projected to peel back to $40.24 per share. Investors generally don't like to see any sort of contraction, even when that contraction is the result of high (and highly unfair) comps like those Goldman Sachs produced last year.

Analysts believe Goldman Sachs' banner 2021 isn't going to be repeated in 2022.

Data source: Thomson Reuters. Chart by author.

The consensus estimate, though, may be underestimating what's in store for this year and beyond.

3 big tailwinds

Take investment banking, for instance. Dealogic reports that 2021 saw a record-breaking $5 trillion worth of mergers and acquisitions; Refinitiv says the figure is closer to $5.8 trillion. Either way, Goldman collected at least its fair share of the industry's business, boasting $10.5 billion worth of investment banking business through the first three quarters of last year.

That's nearly twice as much business as the division had reported at this point in pre-pandemic 2019, and accounts for about a fourth of Goldman's total top line. Its investment banking arm, in fact, saw its second-best quarter ever during the third quarter of the year.

Don't look for this brisk business to slow up any in the foreseeable future, either. A survey performed by law firm Dykema Gossett late last year ultimately indicates: "In the year to come, it looks like nothing -- not the latest surge in COVID-19 cases, the Biden administration's legislative agenda or economic uncertainties -- will be able to break the stride of M&A dealmakers." The firm ultimately expects dealmaking to accelerate this year, in fact. That's an expectation echoed by PWC, acquisition-specializing law firm Hinckley Allen, and others.

Goldman Sachs isn't just well-positioned to capitalize on the ongoing growth of the investment banking industry, though. It's also venturing into geographical markets where financial industries are just beginning to gain significant traction -- namely, Latin America, where Bloomberg reports the company is stepping up recruitment to expand its existing reach.

The company's already got a respectable presence there, at an ideal time. Latin America's mergers and acquisitions hit a 10-year high of their own in 2021. Like the rest of the world, the region should see sustained M&A activity through this year and beyond.  

It's not just investment banking Goldman's got in mind, though. Goldman's Latin America co-head Aasem Khalil commented to Bloomberg that his employer generated record-breaking results within the market thanks to a combination of asset management, investment banking, and other types of business.

Finally, although it's not a breadwinning business right now, look for Goldman to benefit from the brewing increase in interest rates.

Of the $46.7 billion top-line the company has produced through the first three quarters of 2021, about $4.6 billion of it came from net interest payments. It's minimal income, but it's based on minimal interest rates. The Federal Reserve's Fed Funds rate target remains between a rock-bottom 0% and 0.25%, subsequently capping interest rates on bonds and other types of more conventional lending. It matters simply because lower interest rates typically translate into lower profit margins on debt and lending. As interest rates rise, though, so does the profitability of rate-based businesses.

To this end, look for all rates to start rising in a big way (if they haven't already). The Federal Reserve now anticipates imposing a total of around nine quarter-point increases in the Fed Funds target rate by the end of 2024, each of which will bolster profit margin rates on Goldman's rate-sensitive profit centers.

Connect the dots

To be clear, none of these factors are earth-shattering in and of themselves. Collectively, though, their effect is being underestimated, and certainly not reflected in analysts' current 2022 per-share profit consensus. There's also just a solid long-term growth trend in place here, projected to persist well into the future. Moreover, even if Goldman's key tailwinds were being properly priced in, the stock's still a bargain at less than 10 times this year's expected earnings.

Connect the dots. The stock's taking a break from its recovery rally right now, but the market's not going to keep looking past Goldman Sachs' deep value for much longer.

James Brumley has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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