At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.
Bankers in love
Today, in honor of both spring and National Poetry Month, we're going to start off with a few lines from Ella Fitzgerald:
Birds do it, bees do it
Even educated fleas do it
Let's do it, let's fall in love
Turns out the spring season is also making itself felt among America's least romantic cohort: bankers. They're falling all over themselves in praising one of their own this week: Capital One (NYSE: COF). Last week, you see, Cap1 announced a real blowout of a quarter: $2.72 per share in GAAP profit (a 37% increase, year over year). Even backing out the extra "accounting profits" earned through its purchase of ING Direct USA, Cap1's $1.56 in adjusted profits easily trumped consensus targets. And this is winning the credit card purveyor endorsements from all across Wall Street.
Welcome to the big leagues, Cap1
On Friday, as you may recall, Stifel Nicolaus increased its target price on the stock to $71 a share, and after taking the weekend to mull it over, yesterday JPMorgan Chase (NYSE: JPM) decided to do likewise. Upgrading Capital One to "overweight," the folks at JP argued that this stock could easily tack on a 30% gain over the course of the next 12 months and hit $70 within a year.
How could that happen? First and foremost, you need to realize that Capital One is not the company you used to think of it as being. No longer a mere purveyor of credit cards, a series of purchases in the pure banking arena has lifted Cap1 into the ranks of the nation's biggest banks. Among commercial banks, Cap1 now ranks No. 6, following (in ascending order) US Bancorp, Wells Fargo, Citigroup (NYSE: C), Bank of America (NYSE: BAC), and yes, even JPMorgan itself.
Yet while Capital One now has the financial heft to compete with these worthies, few investors seem to be giving it the respect it's due. Priced at just 8 times earnings, Capital One shares sell at a steep discount to the 12 P/E ratio more common among credit card issuing banks -- and it's cheaper than any of the big banks I just named.
Cheap for a reason?
Sure, there could be a reason investors are giving Cap1 short shrift (short thrift?). Consensus estimates still say this banker can't grow earnings much faster than 8% per year over the next five years. That's a slower pace than Wall Street expects to see from anyone else in this grouping, save only Bank of America. On the other hand, after watching Capital One turn in 37% profits growth last week, a Fool can't help wondering whether that "8%" prediction isn't just a wee bit too conservative.
Valuation matters
When you get right down to it, though, how fast Capital One actually winds up growing in the quarters and years to come isn't important, except as a matter of degree. If the company grows at only 8% or so, then its P/E ratio of 8 and 0.4% dividend yield mean the stock is underpriced. If, on the other hand, Capital One winds up growing at 9%, 10%, or ... 37% going forward, all this means is that the stock is just that much more inexpensive.
And a better bargain, accordingly. That's why I've publicly endorsed the stock as an outperformer on Motley Fool CAPS. That's also why I'm doubling down and re-recommending an investment in Capital One today.
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