Western Alliance Bancorporation (WAL), based in Arizona, produced excellent earnings and deposits for Q1. Despite the fall of First Republic Bank today, this bank stock has been popular with value investors. WAL stock is actually trading higher on that news, given that the regional bank is not in a similar situation.
In fact, as we pointed out in an earlier article on March 27 ("Western Alliance Bancorp Option Premiums Are Still High, Attracting Income Investors"), WAL is attractive to investors who have shorted out-of-the-money (OTM) puts. They were taking advantage of the fears about the company.
After all, Western Alliance's earnings for Q1 were much better than expected. The bank reported that earnings per share (EPS) were $2.30, a beat of 27 cents over the $2.03 forecast by analysts. However, most investors were looking at the company's deposits at quarter end. The bank said its deposits were $47.6 billion, lower than the $61 billion it had in the middle of March. However, at that time the bank had also raised $25 billion in cash deposits.
However, the bank's tangible book value (TBV) rose to $41.56 per share, despite the lower deposit levels. This is higher than the $40.25 per share TBV that WAL had at the end of December 2022. This implies that the valuation of its existing loans, which make up the bulk of its assets, had increased in value.
At the time WAL stock had dipped to the mid-$20 range, attracting a 5.4% stake from classic value investor Ken Griffin, who runs the huge Citadel hedge fund.
Where This Leaves WAL Stockholders
At today's price of $37.81, WAL stock trades for just 4.6x earnings, as analysts project $8.18 in EPS for this year. In addition, the annual $1.44 dividend is more than covered 5x by earnings and gives investors an attractive 3.80% dividend yield.
Lastly, the bank stock still trades below its tangible book value of $41.56 per share, leaving a 10% cushion between the stock at $37.81 per share. That is a typical minimum margin of safety that value investors like to see, along with the other metrics mentioned above.
Shorting OTM Puts for Additional Income
In our prior article, we wrote that investors should look at the April 28 expiration put options, with a view to shorting the $25 and $20 strike price puts. Those premiums sold for $2.25 and $1.40 respectively, when WAL stock was at $34.92. In other words, even though they were deep out-of-the-money (OTM), by 28% and 42% respectively, they still provided investors with huge yields.
For example, the premium-to-spot price yield for both was 6.4% and 4.0% respectively (i.e., $2.25/$34.92 and $1.40/$34.92). Their premium-to-strike yields were 9.0% and 7.0% as well. Since the put options expired worthless, the investors shorting these puts successfully captured 100% of those yields if they held the puts to expiration.
Those yields are no longer available with WAL stock, although they are still attractive. For example, the May 26 option chain at Barchart shows that the $34.00 strike price puts, more than 10% out-of-the-money, trade for $1.10 per put price.
Moreover, even lower strike price puts are also trading at attractive levels. The chain above shows that the $30 strike price puts, over 21% OTM, are at 55 cents per put contract.
This means that the investor who secures $3400 in cash or securities with a brokerage firm can earn $110 immediately by entering in an order to “Sell to Open” a put contract at the $34.00 strike price. This brings in an immediate yield of 3.23% for the next 25 days. If this can be repeated every 25 days, that works out to an annualized return of over 47% annually.
Moreover, the less risk-averse investor who secures $3,000 with a brokerage firm can immediately receive $55 shorting the $30 strike price puts. That is a 1.83% yield for the next 25 days and represents an annualized return of 26.8%.
These are excellent returns for short-put investors who can supplement their income by shorting OTM puts, taking advantage of investors' fears about the bank. Given the company's stellar earnings and tangible book value, along with its high yield and low multiple, there is no wonder that value investors are attracted to this stock and this short put strategy.
On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
