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Wells Fargo Stock Is Still Undervalued Despite Ugly Earnings Results

Wells Fargo (NYSE:WFC) has had a rough run on Wall Street over the past several years, with Wells Fargo stock falling from $65+ highs in early 2018 to $24 today.

A Wells Fargo (WFC) sign hangs on a brick building in Bloomfield, Connecticut.

Source: Martina Badini / Shutterstock.com

Things didn’t get any better when Wells Fargo reported second quarter 2020 earnings.

The print was awful. Revenues missed expectations, and dropped 17% year-over-year. Profits missed expectations, too, and pre-provision profits dropped 60% year-over-year on the back of meaningful profit margin compression. Wells Fargo slashed its dividend by 80%, too.

It was just a really bad earnings report.

It makes sense, then, that Wells Fargo stock fell 5% in response to the print.

But, with shares now at their lowest levels since 2011, the stock is too cheap for its own good. On the back of recovering economic activity and improving growth trends over the next six months, the stock will meaningfully rebound from these lows by potentially 50% … or more.

Here’s why.

Wells Fargo’s Earnings Were Bad

As mentioned earlier, Wells Fargo’s second quarter earnings report was awful. It was a double miss quarter with significant revenue declines.

Huge profit margin compression. Record low net interest margins. A significant build in reserves. And a huge net loss. For a bank, that’s about as bad of an earnings report as is possible.

Sure, you can explain away some of the weakness as temporary headwinds provided by the novel coronavirus pandemic and today’s unique economic environment. But that doesn’t explain away everything. After all, JPMorgan (NYSE:JPM) and Citigroup (NYSE:C) both reported a double-beat second-quarter earnings report, with positive revenue growth.

Clearly, Wells Fargo is under-performing peers in a challenging banking environment.

That’s a recipe for disaster. And disaster is exactly what you’re getting with Wells Fargo stock today.

Improving Economic Fundamentals

The positive here is that the U.S. economic backdrop against which Wells Fargo is operating will gradually improve over the next few quarters.

Yes, right now, we are going in reverse in terms of the economic recovery. New York is essentially closing its borders. California, Texas, Florida and many other states are rolling back reopening measures.

Still, these business shutdowns and mobility restrictions are temporary. A vaccine is coming. Soon. And when it does arrive, many of these restrictions will become a thing of the past.

Plus, America is only doing a better job at balancing virus mitigation efforts with attempts to maintain social and economic normalcy. For example, while indoor restaurant operations in California have been ordered to close, many cities in the state are now converting streets and parking lots into socially distanced outdoor seating for restaurants. At the same time, retail shops and salons are increasingly moving their operations outside, too.

Mask wearing is also becoming more ubiquitous, and that should prove to be a leading indicator for decreasing Covid-19 spread and easing economic restrictions.

So, throughout the back-half of 2020, I expect U.S. consumers, businesses and legislators alike to all get better at this balancing act. As they do, businesses will be able to conduct business on a quasi-normal basis, U.S. consumer spending trends will perk up and interest rates will head higher to reflect recovering economic activity … all while Covid-19 spread and negative impacts are mitigated.

To that end, banking sector fundamentals will improve over the next six months. This will create a rising tide for all bank stocks, even Wells Fargo stock.

Wells Fargo Stock Is Too Cheap

I understand that Wells Fargo is simply missing the mark across the board right now.

But I also understand that this is still one of a select few major consumer banks in the U.S. and that it’s not going away anytime soon. If macro U.S. economic and banking sector fundamentals improve over the next 6 to 12 months, Wells Fargo’s numbers and growth trends will get better.

Wells Fargo earned about $4 per share in 2019. Fiscal 2020 earnings will get washed away by huge reserve build. As that reserve build falls in 2021 and economic activity perks up, Wells Fargo’s earnings will recover.

To where? The Street thinks around $2.30 per share. I think that’s conservative. My modeling suggests $3 is much more likely.

Wells Fargo stock normally trades at 12-times forward earnings. Based on that forward multiple, $3 in 2021 earnings per share implies a fair 2020 price target for the stock of $36.

Shares trade at $24 today.

Thus, there is a visible path for Wells Fargo’s stock to rally 50% over the next 6 to 12 months.

Bottom Line on Wells Fargo

Wells Fargo has been the weakest link among U.S. big banks for several years now. But, it’s still one of the big banks. And, as one of the big banks, Wells Fargo’s numbers and growth trends will improve over the next 6 to 12 months as U.S. economic activity picks up.

These improving fundamentals will converge on what is a hugely discounted valuation, and spark a huge rally in Wells Fargo stock over that stretch.

Luke Lango is a Markets Analyst for InvestorPlace. He has been professionally analyzing stocks for several years, previously working at various hedge funds and currently running his own investment fund in San Diego. A Caltech graduate, Luke has consistently been rated one of the world’s top stock pickers by various other analysts and platforms, and has developed a reputation for leveraging his technology background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based internet venture firm. As of this writing, he did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, https://investorplace.com/2020/07/wells-fargo-stock-is-still-undervalued-despite-ugly-earnings-results/.

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