Overview of the Company - Citigroup is a financial company that deals with institutional and retail customers. They offer credit solutions, investment banking and asset management for corporations and high net worth individuals. They compete with JP Morgan, Bank of America, and Wells Fargo.
Fundamental Analysis - As the Fed gears up to taper I believe interest rates like the 10 year note yield will see a substantial increase in the next year as bond prices lower. This is beneficial for all financials, including banks like Citi. As the coronavirus subsides and the economy gets back onto its feet, the Fed will likely slow their extreme purchasing of U.S. treasury securities, which pushed interest rates down to near 0 during the height of the pandemic. Now that we are starting to emerge from the pandemic, the Fed has no reason to stimulate the economy by keeping interest rates artificially low. We know that as the Fed stops buying bonds, interest rates will go up. As interest rates go up, banks will see higher yields on their loans and increased profits. This leads me to an extremely large part of the core business of banks. Net interest margin is the difference between the interest the banks have to pay to you in savings accounts or CD’s and the amount they receive through the yield of loans and mortgages. As rates rise and the net interest margin increases, banks will see better profitability which will lead to higher EPS numbers which in turn should boost their stock price.
How (Citigroup) Stacks Up to Competitors - Out of their main competitors listed in the overview, Citi is by far the cheapest stock, with a Price to Earnings ratio in the single digits compared to a 10-11 PE for their competitors. Citi is as profitable as the others and has the second highest return on equity in the group. Not to mention its year over year earnings growth far outpaces the group. Combine that with the fact that this is the only stock in the group trading at below its tangible book value and has the highest forward annual dividend yield, Citigroup seems like a great buy. Sure we have established that Citi may be a good buy now but as we look to the future, Citigroup is the only company in the group with a single digit forward price to earnings ratio.
Bull Case - The bull case is very simple for this stock. It stacks up in major categories to the other big banks, but it simply does not trade at the valuation it deserves. If Citigroup trades at its tangible book value of over $90 per share within the next year, we are looking at close to a 30% annualized return. This does not include the dividend yield which is close to three percent and is the highest in the group with no signs of decreasing. Include that with the fact that a rising interest rate environment is good for bank stocks, it seems that Citigroup is poised to rally.
Bear Case - With the monstrous year over year earnings growth that far outpaces its rivals, it is quite obvious that Citi cannot sustain these numbers. Earnings will draw down and the average EPS estimate on the street for 2022 is very close to a 2 dollars a share decrease from its current EPS. For Citigroup to maintain its current share price it must become a more expensive stock. In fact, for Citigroup to stay above water in the next year, its price to earnings ratio must rise to over 9. It is very likely that Citigroup stays dead money over the next year as its P/E must increase radically for its share price to increase. Citigroup will have to post EPS beats or trade at a double digit P/E to have any upside from here and have a chance to outperform their sector.
Valuation and My Price Target - If we take the average street EPS estimates for 2022 (7.79) and multiply it by Bank of America’s current P/E ratio, we get a share price of $106.72. Over 48% upside from here. Therefore, assuming Citigroup gets the value it deserves and trades at a relatively close P/E to its peers, I believe a fair one year price target for Citigroup to be $93.48. This indicates annualized return of around 31%, more than a fair return, without accounting for dividend reinvestment or EPS beats that may drive your return to even higher levels.
The Verdict - BUY HOLD SELL
Citigroup is an undervalued stock in one of the greatest environments for financials in a long time. I believe that as the Fed tapers and interest rates rise, Citigroup will become more profitable, beating average EPS estimates on the street and trade at a substantially higher multiple. With my one year price target of $93.48 combined with a healthy and sustainable dividend yield I believe Citigroup is currently a BUY.
*all data provided by yahoo finance and nasdaq.com