Stephens Banking Pair Trade: Fifth Third Upgraded, US Bancorp Downgraded

Stephens’ Terry McEvoy upgraded the rating for Fifth Third Bancorp FITB from Equal-Weight to Overweight, with a price target of $20. The rating for U.S. Bancorp USB was reduced from Overweight to Equal-weight.

Analyst Terry McEvoy recommended investing in banks that are more levered to a recovery environment, have a potential catalyst and are trading at reasonable valuations.

Fifth Third Bancorp: Poised To Benefit From Vantiv Stake

Fifth Third is among the worst performing Super Regional bank stocks so far in 2016, McEvoy mentioned. The company’s shares have declined 15 percent year-to-date, reflecting investor concerns surrounding the bank’s credit quality, expense uncertainty and negative revisions.

McEvoy expects the CEO transition to boost investor confidence in Fifth Bancorp’s strategic direction. Fifth Third has an 18.4 percent economic interest in Vantiv Inc VNTV, which provides value to the former’s shareholders through Class B shares, warrants on Class C shares and the Tax Receivable Agreement or TRA.

“Fifth Third has an unrealized gain on the shares of ~$740 mil., a fair value for the warrants of ~$170 mil., and an outstanding TRA of $833 mil. Additionally, Vantiv estimates that if Fifth Third was to exercise all its remaining shares and warrants, the TRA obligation would total ~$1.1 bil,” the Stephens report noted.

McEvoy expects Fifth Third to continue to monetize the stake in Vantiv and return capital to shareholders as part of its 2016 CCAR plan.

US Bancorp: Lower Leverage

Year-to-date, US Bancorp’s stock has been the best performing among Super Regional bank stocks. The stock has declined 4.6 percent year-to-date, versus an average 12.4 percent decline in its Super Regional peers.

With an improvement in the overall economic scenario, those investing in banks with strong track records and balance sheets may shift towards banks levered to higher growth or recovery economies with little energy exposure, McEvoy commented.

The decline in gas prices is expected to exert pressure on US Bancorp’s card businesses, especially the Voyager fleet card business. McEvoy added that the spreads within the company’s merchant acquiring business are also expected to be under pressure from increasing competition and a shift towards rewards programs.

US Bancorp’s payments business is expected to remain an important growth area for the company. The company’s 1Q mortgage revenues are, however, expected to be negatively impacted by the pullback in interest rates in the beginning of the quarter, the analyst said.

While US Bancorp’s balance sheet would benefit from an interest rate rise, the company’s high level of fee income concentration reduces the leverage of net income to interest rates, the report stated.