The market recently underwent its first 10% correction in the last 47 months. That’s the third longest span without a correction since World War II. The catalyst was China’s surprise devaluation of the yuan and crashing stock market, which appeared to confirm concerns over the growth of the world’s second largest economy. Elevated valuations and continued uncertainty over when the Fed will finally hike interest rates added fuel to the selloff. Interestingly enough, a little over a year ago, the market sold off almost 5%, as investors first started getting the jitters over when the Fed would raise interest rates. In our “Investment Comments” at the time, we wrote:
“The Fed is beginning to debate the merits of raising interest rates earlier than the expected mid-2015 timeframe. The July 31st stock market selloff was likely triggered by concern that interest might rise earlier based on stronger economic data. Because of the Fed’s policy of holding near-term rates at zero, investors have been pushed into riskier assets. It is believed that additional market volatility caused by rising rates could send marginal investors to the exits, hurting equity prices in the short-term.”
Of course, we are now past mid-2015 and interest rate speculation remains a key driver of the short term movements of the markets. Hawkish Fedspeak from St. Louis Federal Reserve President James Bullard certainly added to market volatility and sent marginal investors to the exits in the wild drop at the open on Monday, August 24th, when the Dow initially dropped 1,000 points and the VIX “fear index” surged over 50 for the first time since 2009. As we stated in our “Investment Comments” a year ago, we don’t think the prospect of rising rates should scare investors because rates will only rise when the economy is growing strongly, and they will likely settle well below the historical average. We are also convinced that good investing requires not being scared out of stocks during corrections. Stock market corrections happen often, roughly once a year on average, they rarely last long, and most don’t lead to bear markets, especially in the absence of a recession. We prefer to take advantage of corrections as good times to buy high-quality stocks at better prices.
One of the high-quality stocks we like is New York-based Signature Bank (NASDAQ: SBNY), which we profiled in last September’s IAS issue. The stock was up over 25% before growth stocks and financials got hit especially hard in this August’s correction. Even after the correction, the stock has performed well, up 10% over the past year compared to 0.5% for the S&P 500 and 4% for the S&P Regional Bank Index. At a current price of $133, the shares still trade at a relatively expensive 20 times trailing EPS, but are significantly down from their 52-week high of $155. With earnings growth in the 20%-30% range the past few years, the valuation premium certainly looks justified. Even at the premium price, if management can maintain momentum and deliver future growth in the 15%-20% range, there could be plenty more room for the stock to run. In addition, because of Signature’s tremendous deposit inflows and comfortable net interest margin, rising interest rates should be a net tailwind to earnings.
After our profile of the company last September, the October Ebola-fueled market turmoil demonstrated the importance of keeping one’s head and buying high-quality stocks in market-wide selloffs when prices diverge from fundamentals. SBNY shares dipped from the $110-$115 range to the low $100s. In the midst of last October’s selloff, investors could’ve purchased the stock for 18 times trailing EPS while knowing the underlying fundamentals of the business were strong, as the company had just reported astounding revenue growth of 26%, EPS growth of 32%, deposit growth of 29%, and miniscule charge-offs in 2Q14. However, the window of opportunity didn’t last long as the market-wide bounce and superb 3Q14 results in mid-October provided the catalyst for an over 15% surge in the stock price to the $120 range.
Investors got another shot at purchasing SBNY stock at a sub-20 P/E when it dipped from the high $120s back to the $110-$115 range in early January, tightly tracking the plummet in interest rates at the time (10-year US Treasury yields fell all the way to 1.70%). At the same time the share price was falling, Forbes was busy naming Signature the Best Bank in America. Once again the window of opportunity did not last long, as the company released Q4 results at the end of January that began the next steep leg up in the share price. Revenue and net income for the quarter increased 21% and 27%, respectively. Loan quality stayed exceptionally strong and new deposit and loan growth remained at blistering paces, paving the way for another year of potential 20%+ growth in 2015. As a result, the shares rallied almost non-stop to a 52-week high of $155 in the first half of this year, fueled by interest rates marching higher and two more quarters of over 20% revenue, EPS, deposit, and loan growth. At the end of 2Q15, loan quality remained high and charge-offs were very low, per usual. The one issue that has given investors pause after the recent quarter is ridesharing juggernaut Uber’s threat to Signature’s taxi medallion business. However, the business is a relatively small proportion of overall loans and management has indicated that credit quality remains stable.
After the recent market correction, Signature
’s share price has settled in the low- to mid-$130s, right at the 5-year average P/E ratio of 20. With very strong current fundamentals and the prospect of rising interest rates providing a wind at its back, Signature Bank
stock is worth a good look during any significant weakness in this volatile market.