Despite constant attempts by analysts and the media to complicate the basics of investing, there are really only three ways a stock can create value for its shareholders:
- Earnings growth.
- Changes in valuation multiples.
In this series, we drill down on one company's returns to see how each of those three has played a role over the past decade. Step on up, JPMorgan Chase
JPMorgan shares returned 27% over the past 10 years. How'd they get there?
Dividends pulled most of the weight. Without dividends, shares actually produced a 7% loss over the past ten years.
Earnings growth was surprisingly strong over the period. JPMorgan's earnings per share grew at an average rate of 11% per year over the past decade. That's astounding given the collapse of the financial system in 2008, and nearly unprecedented among rivals like Citigroup
So why the dismal shareholder returns? This chart explains it:
Source: S&P Capital IQ.
JPMorgan's valuation multiple has collapsed over the past decade. Amazingly, the price-to-book ratio -- one of the most meaningful metrics when measuring bank valuations -- is approaching levels only seen during the depth of the 2008 financial crisis.
Three points are driving the decline: The possibility of a major financial panic in Europe, slow loan demand here in the U.S., and uncertainty over how financial regulations will impact banks' ability to earn money from trading, which has been a key profit driver in recent years.
The good news is that, with a price-to-book ratio now less than 1, a lot of the bad news is already priced in. Unless JPMorgan has to raise a significant amount of new capital by issuing shares, it's very unlikely that shares will stay this cheap for long. There is risk, of course, but JPMorgan -- and banks in general -- look statistically cheap.
Why is this stuff worth paying attention to? It's important to know not only how much a stock has returned, but where those returns came from. Sometimes earnings grow, but the market isn't willing to pay as much for those earnings. Sometimes earnings fall, but the market bids shares higher anyway. Sometimes both earnings and earnings multiples stay flat, but a company generates returns through dividends. Sometimes everything works together, and returns surge. Sometimes nothing works and they crash. All tell a different story about the state of a company. Not knowing why something happened can be just as dangerous as not knowing that something happened at all.
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