The year 2022 hasn’t been kind to financial-services stocks. The S&P 500 Financials Sector Index has slumped 18% year to date.
But as of June 27 the drop left more than 70% of the North American financial stocks that Morningstar covers undervalued. The financial-research and -services firm's analysts determine a fair value for each stock that they cover.
“The median North American financial stock trades at a 21% discount to its fair value estimate compared with a 1% discount at the end of the first quarter of 2022 and a 2% premium at the end of the fourth quarter of 2021,” Michael Wong, director of Morningstar’s equity research for North American financial services, wrote in a commentary.
So now might be a time to consider financial stocks.
To be sure, financial companies still face some headwinds. “For banks, loan chargeoffs should begin to increase, as the buffer in savings that consumers stowed away is spent,” Wong said.
“Banks also had abnormally high mortgage refinancing, underwriting, merger advisory, and trading revenue in 2020 and 2021, and these revenue streams should normalize lower over the next couple of years.”
Meanwhile, with U.S. stocks and bonds slumping, “asset and wealth managers with asset-based fees will report a drop in revenue until the markets recover,” Wong said.
But on the plus side, the Federal Reserve’s interest rate increases “benefit the earnings of many financial companies,” Wong noted.
Here are his top picks for financial stocks.
BlackRock
(BLK)
Morningstar assigns BlackRock a wide moat and puts fair value for the stock at $880, 41% above the recently trade at $623.
“BlackRock has traded off harder than other asset managers this year, but there’s no fundamental reason for it to be trailing its peers performance-wise,” he said.
“The company is at its core a passive investor. ... In an environment where investors are seeking out passive products, as well as asset managers that have greater scale, established brands, solid long-term performance, and reasonable fees, BlackRock is well positioned.”
Citigroup
(C)
Morningstar gives the banking giant no moat and puts fair value for the stock at $78, 66% above the recently trade at $47.
“Citigroup is the most undervalued traditional U.S. bank under our coverage and is trading below tangible book value,” Wong said.
“The bank is busy shedding nonperforming segments, refocusing its operations on core competencies and geographies, and dealing with consent orders from regulators. Further, Citigroup is not one of the most rate-sensitive names, which we think contributes to its current lack of popularity.”
Goldman Sachs
(GS)
Morningstar assigns it a narrow moat and puts fair value for the stock at $430, 44% above the recently trade at $298.
“Goldman Sachs … will likely face headwinds over the next year or two, as investment banking and trading revenue normalize lower from elevated 2020 and 2021 levels,” Wong said. “We believe much of this is already factored into the stock’s price.”
In the medium term, Goldman should benefit from “initiatives that should improve the stability of its earnings, such as its push into consumer banking and changes in its investment-management business,” Wong said.
The author of this story owns shares of BlackRock and Goldman Sachs.
