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Analyst: Two Finance-Themed Pair Trades That Could Make You Money

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Analyst: Two Finance-Themed Pair Trades That Could Make You Money
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  • Financial stocks have fallen on Chinese growth concerns, but the Street's target prices "barely moved," according to James Fotheringham of BMO Capital Markets.
  • Fotheringham is recommending investors "buy the dip."
  • Fotheringham offered two pair trades, including buy Mastercard Inc (NYSE: MA) / short American Express Company (NYSE: AXP) and buy Citigroup Inc (NYSE: C) / short Wells Fargo & Co (NYSE: WFC).

In a report published Tuesday, BMO Capital Markets analyst James Fotheringham commented on the U.S. large-cap banks and specialty finance space, noting that financial stocks have fallen as of late but the Street's target prices have "barely moved" and investors should "buy this dip."

Fotheringham offered two pair trades for investors to consider.

Buy MasterCard, Short American Express

Fotheringham's first pair consists of buying MasterCard as a long-term investment given its growing capacity to return capital to investors which will likely grow over the coming years.

The analyst noted that MasterCard's guidance for the three-year period 2016-2018 of mid-teens earnings per share compounded growth may prove to be "conservative." Moreover, the company is active in driving growth in India (still building its electronic payments infrastructure), Brazil (facing a "temporary" economic slowdown), and Europe (disruption from the potential acquisition of Visa Europe by Visa could "create opportunities").

On the other hand, American Express' shares will likely benefit in the near term from the sale of its Costco portfolio at an expected 20 percent premium to receivables. The company could use the proceeds to buyback 3 to 4 percent of its outstanding stock which will boost the stock – "at least temporarily."

Looking past the near-term event, American Express faces "significant" growth headwinds as volume growth from effective franchise expansion (i.e acquiring new members from different demographics) is not translating to revenue growth. As a result, the analyst sees downside risk to the company's multiple as a result of the "enduring" growth headwinds.

Buy Citigroup, Short Wells Fargo

Fotheringham's second pair consists of buying shares of Citigroup as a short-term, event-driven idea for investors with a "high risk tolerance."

According to the analyst, Citigroup's earnings in the coming quarters will show "rapid growth" in its regulatory capital ratios due to lower legal chargers and higher consumption of deferred tax assets.

Fotheringham also pointed out that if the value of emerging market banks that are "economically adjacent" to China falls by 20 percent, an appropriate decline in Citigroup's stock would be only 2 to 3 percent, indicating the 15 percent decline in Citigroup's stock over the past few weeks is "exaggerated."

Similar to American Express, shares of Wells Fargo are expected to benefit in the near-term from the potential acquisition of commercial assets from GE Capital which could prove to be 4 percent (or more) accretive to its earnings.

However, while the analyst sees a "positive surprise potential" in the growth of Citigroup's regulatory capital and capital return to shareholders, he doesn't see a similar catalyst as being likely for Wells Fargo. Similarly, Citigroup could see a re-rating in its shares higher following a faster-than-expected growth in regulatory capital, but Wells Fargo's stock has already re-rated higher to its historical average during the 2012 to 2014 period.

Other Trade Recommendations & Rating Changes

Fotheringham also recommended shorter-term investors with a "high risk tolerance" to buy shares of Santander Consumer USA Holdings Inc (NYSE: SC) and Springleaf Holdings Inc (NYSE: LEAF). Longer-term investors should consider buying shares of Capital One Financial Corp. (NYSE: COF)

Shares of JPMorgan Chase & Co. (NYSE: JPM) were upgraded to Outperform from Buy.

Shares of Ally Financial Inc (NYSE: ALLY) were upgraded to Outperform from Market Perform.

Shares of Springleaf Holdings were upgraded to Outperform from Market Perform.

Shares of Synchrony Financial (NYSE: SYF) were downgraded to Market Perform from Outperform.

Latest Ratings for MA

DateFirmActionFromTo
Jan 2017RBC CapitalUpgradesOutperformTop Pick
Dec 2016Bank of AmericaUpgradesNeutralBuy
Nov 2016GuggenheimDowngradesBuyNeutral

View More Analyst Ratings for MA
View the Latest Analyst Ratings

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