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Bank of Montreal: Excellent Results, but the Valuation Is Stretched

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·5 min read
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- By Nathan Parsh

The Bank of Montreal (NYSE:BMO) has returned exactly 100% over the last year since the Covid-19 pandemic began in early 2020.

However, could there still be more to room to run for the Bank of Montreal's stock, or should investors wait for a pullback? In this article, we will examine the company's most recent earnings report as well as its valuation in an effort to determine the answer to this question.


Quarterly highlights

The Bank of Montreal reported earnings results for its first quarter of fiscal 2021 on Feb. 2. The company reported revenue of $5.54 billion for the quarter, which was a 20.5% improvement from the prior year and $818 million above what Wall Street analysts had expected. Earnings per share grew 25.5% to $2.43 and topped estimates by 73 cents.

The Bank of Montreal, along with many of the other Canadian banks, drastically cut its provisions for credit losses, or PCL, during the quarter. PCLs were down 3.3% year-over-year and 23% quarter-over-quarter.

Impaired and performing loans increased dramatically at the onset of the Covid-19 pandemic and continued for several quarters. To illustrate how much of an improvement this segment has seen in a short amount of time, first-quarter PCLs were down by 71% compared to the third quarter of fiscal 2020. PCLs have been reduced by nearly three-fourths in just two quarters. Impaired and performing loans accounted for just 0.14% of all loans, showing that the company's portfolio is now in very healthy shape.

The Canadian Personal and Commercial Banking segment grew 1% with net income up 5%. Average loans increased 3%, with proprietary mortgages leading the way with 9% growth. Commercial was up just 1%. Average deposits grew 15% as commercial deposits surged 28%. The net interest margin grew 6 basis points sequentially to 2.66%, but declined 2 basis points from the prior year. Expenses were well controlled, down 3% year-over-year.

U.S. Personal and Commercial Banking produced 7% revenue growth with net income growing by 66%. Much of the improvement in net income came from lower PCLs, particularly in the commercial loan business. Average loans were higher by 1% as a 6% decline in personal was offset by 2% gain in commercial. Net interest margin improved 17 basis points to 3.51% due to better loan margins and an acceleration of Paycheck Protection Program loan income. Non-interest revenue was also robust, growing at a high single-digit rate.

BMO Wealth Management had a good quarter, with revenue growing 5.1% and net income higher by 23%. Gains were broad-based. Strong global markets as well as higher online brokerage usage helped drive a 35% improvement in Traditional Wealth. Assets under management were up 8%, loans grew 9% and deposits improved 25%. Insurance was down from the same quarter a year ago, but up 7.5% from the previous quarter.

BMO Capital Markets also had a very good quarter. Revenue was higher by more than 25%, which was the best figure for the bank in the first-quarter. Net income grew 36%. Expenses were up 3.2% on account for higher performance-based compensation, but this was more than offset by a record quarter for Global Markets. This business improved 25%. Investment and Corporate Banking fell 1% due to a weaker U.S. dollar. Overall, the U.S business more than doubled to a new record net income.

The Bank of Montreal experienced a very strong first quarter of the new fiscal year. This is quite the turnaround from last year when Covid-19 severely impacted the company's PCLs. The company's ability to lower its PCL so quickly is a testament to its strength, in my opinion. Even better, a very small amount of the Bank of Montreal's loan portfolio is considered to be impaired or performing.

Valuation

I am not the only one to be impressed with the company's recent quarter or its prospects going forward. According to Wall Street, the Bank of Montreal is expected to earn $8.27 per share in fiscal 2021, which would be an 39% increase from fiscal 2020.

Shareholders of the Bank of Montreal have enjoyed an excellent return over the last twelve months, but shares are still trading below their long-term average valuation. The stock closed Friday's trading session at $88.34. Using expected earnings per share for the year, the Bank of Montreal has forward price-earnings ratio of 10.7. This compares favorably to the 10-year average price-earnings ratio of 11.2.

The last time I discussed the Bank of Montreal, shares were still below their intrinsic value as calculated by the GuruFocus Value chart, but that is no longer the case following an excellent return.

Bank of Montreal: Excellent Results, but the Valuation Is Stretched
Bank of Montreal: Excellent Results, but the Valuation Is Stretched

With a GF Value of $80.41, shares have a price-to-GF-Value ratio of 1.10. The stock would need to fall nearly 10% to trade with its intrinsic value according to GuruFocus.

Income investors will like that the Bank of Montreal has a long history of paying a dividend, with its first distribution coming in 1829. The company did pause its dividend growth from 2009 through 2011, but has increased it for nine consecutive years. U.S. investors have seen their dividend payment increase at a rate of just 1% annually over the last decade, but the stock yields 3.8% today, much better than the 1.5% average yield of the S&P 500 index.

As with Toronto-Dominion Bank (TD), I find a lot to like about the Bank of Montreal. The company has quickly turned around in short order as the Covid-19 pandemic weighed on results in the previous year. Shares also offer a very solid yield.

That said, the Bank of Montreal trades at only a slight discount to its long-term average price-earnings ratio and at nearly a double-digit premium to its intrinsic value. As much as I like the most recent quarter, resiliency of the business and dividend yield, I would prefer to wait for a pullback before adding the Bank of Montreal to my portfolio.

Author disclosure: the author has a long position in Toronto-Dominion Bank.

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This article first appeared on GuruFocus.