It’s simply difficult to make a compelling case for Citigroup (NYSE:C). The C stock price does look cheap at 8x+ forward earnings, admittedly. But other big banks aren’t much more expensive. The performance of the Citigroup business has been solid – but it hasn’t been spectacular. And the performance of Citigroup stock has been about the same.
The word that seems to be describe Citigroup is “middling”. The same is true of the company’s recent first quarter earnings report. Citigroup did beat analyst expectations, but the core banking operations posted a modestly disappointing quarter.
As a result, neither earnings nor the C stock price look quite compelling enough. I’ve argued for some time that JPMorgan Chase (NYSE:JPM) and Bank of America (NYSE:BAC) are the two best big bank stocks. Citigroup, at least so far, hasn’t shown quite enough to change that opinion.
Mixed Earnings
As noted, Citigroup beat consensus estimates for both revenue and earnings. Looking closer, however, the performance isn’t quite as impressive as the headlines suggest.
For one, Citigroup received a benefit from a surprisingly strong quarter for its fixed-income trading business, which kept revenue stable despite declines at several peers. Results in trading are generally lumpy. Indeed, equity trading revenue fell 24% year-over-year which suggests that Q1 results may not repeat over the rest of the year. The International business also had a strong quarter, with 3% revenue growth and 24% rise in net income, per the Q1 earnings slides.
But in the core North American banking business, the news looks more disappointing. Revenue did rise 4% excluding the sale of the company’s portfolio with Hilton Hotels (NYSE:HLT). But credit costs, even with that sale, rose 8%, with a 10% increase in credit loss. Earnings before taxes in the business declined 10% year-over-year.
Given that the bull case for Citigroup stock long has rested on hopes for a turnaround in U.S. banking, the performance is somewhat disheartening. Citigroup has overhauled management, but as Bloomberg pointed out, the quarter raises questions about the company’s targets for efficiency ratio (expenses as a percentage of revenue) and return on equity. Citigroup still sits well short on both fronts.
The Case Against Citigroup Stock
Citigroup dropped just four pennies the day of earnings showing the mixed nature of the report. It’s since rallied 5.4%, but that mixed sentiment seems appropriate for Citigroup stock on the whole. Citigroup is cheaper than BAC or JPM, but it simply hasn’t performed as well. It doesn’t have the same problems as Wells Fargo (NYSE:WFC) but that’s not saying a lot.
So if an investor wants a big bank stock, the best businesses to buy look like JPMorgan Chase and Bank of America. The company with the biggest potential for a turnaround is Wells Fargo. Citigroup is stuck in the middle.
That’s been true for performance as well. Over the last three and five years, JPM and BAC have outperformed; Wells has lagged (actually seeing its share price decline over both periods); and the Citigroup price has been stuck in the middle.
It’s simply too narrow a bull case. Want to buy the best businesses? Go with BAC and JPM. Want the biggest potential rewards (and potentially the biggest risk)? Go with WFC. Why, exactly, is an investor buying Citigroup stock – particularly with some concerns in earnings?
The Case for Citi Stock
That said, however, the case for Citigroup stock can’t be completely ignored. For one, Citi shares are cheap. JPM trades at near 11x 2020 EPS estimates. BAC and WFC are at 9x. Were Citigroup to trade even in line with WFC, it would rise over 10%. A double-digit earnings multiple next year suggests 20% upside, and a 2%+ dividend yield.
The disparity in terms of price-to-book is even wider. Citigroup still trades at a discount to book value, whereas its big bank peers all trade at 1.25x or higher.
And so the easy case for Citigroup is simply that if and when it trades in line with peers, the C stock price going to move higher, potentially much higher. Or should multiples elsewhere in the industry come down, as they did toward the end of last year – Citigroup stock will outperform.
To be sure, that case received some support from earnings. Bond trading outperformed. International strength, particularly in Mexico, can help. And it does seem Citigroup is a bit more cautious from a macro perspective than its peers meaning it may be better positioned to manage an economic downturn when it inevitably arrives.
Still, it’s tough to get too excited, particularly with C stock having recovered most of its fourth quarter losses. There’s a decent case – but not a compelling one. It will take a little better than the Q1 performance to change that.
As of this writing, Vince Martin has no positions in any securities mentioned.
