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Bank of Montreal: More Upside After a Significant Gain?

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GuruFocus.com
·6 min read
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- By Nathan Parsh

Shares of the Bank of Montreal (NYSE:BMO) have gained more than 68% since I lasted looked at the company in mid-May.

I was very bullish on the name at that time as I felt the impact from the Covid-19 pandemic was overdone on the stock. I felt that a return towards the 10-year average price-earnings multiple could offer a return of more than 50%, not even including the stock's generous dividend yield.


However, Bank of Montreal has outperformed even my most bullish stance of the stock. Given the return that the stock has produced since May, is there more upside ahead of the Bank of Montreal?

Quarterly earnings highlights

The Bank of Montreal reported fourth-quarter earnings results on Dec. 1 (the company's fiscal year ends Oct. 31). For the quarter, adjusted earnings per share increased 3 cents, or 1.6%, to $1.86, which was 39 cents better than what Wall Street analysts had expected. Revenue grew 5.6% to $4.63 billion, which was $150 million above estimates. In Canadian dollars, EPS and revenue were down 0.8% and 1.6%, respectively.

For fiscal 2020, adjusted EPS declined $1.25, or 17.7%, to $5.83. Revenue grew 3.3% to $17.9 billion. In local currency, adjusted EPS was lower by 18.3% while revenue improved 3%. The bank attributes most of the bottom-line weakness to the Covid-19 pandemic, with much of the impact felt in the bank's second-quarter and, to a lesser extent, the third quarter.

For this section, all figures are calculated based on Canadian dollars unless noted.

The Canadian Personal & Commercial Banking segment had a revenue decline of 2.3%, but was higher sequentially. Adjusted net income was lower by 9% from the prior year, but more than doubled from the third-quarter. Average loans grew 3%, with especially strong growth in proprietary mortgages. Bank of Montreal did increase its provisions for credit losses, or PCL, compared to the same quarter in the previous year by C$46 million, or 32%, to C$191 million. On the plus side, this was a decrease of C$379 million, or 66.5%, from the third quarter of this year.

Average deposits improved 18%, led by 31% growth in commercial and a 11% increase in personal. The bank stated that this was largely due to both commercial and consumers retaining higher levels of capital in response to the pandemic. Net interest margin was down 9 basis points year-over-year, but was higher by 6 basis points quarter-over-quarter. This segment also experienced a dip in expenses.

The U.S. segment reported a 2% decline in revenue while adjusted net income was down 17%. Much of the decline in net income was due to a 150% increase in PCL. As with the Canadian P & C Banking segment, this was an improvement from the third-quarter, as PCL were down C$112 million, or 45.3%, quarter-over-quarter.

Average deposits grew almost 30%, with commercial higher by 54%. Personal deposits were up 7%. The bank stated that deposit growth reflected higher liquidity levels related to Covid-19. Net interest margins were down somewhat on both a year-over-year and quarter-over-quarter basis. A 5% reduction in expenses helped to offset headwinds from higher PCL.

Capital Markets was the best performing segment. Revenue was higher by 17%. Adjusted net income surged 38%. Global Markets benefited from strong results in both the FICC and equities businesses. Investment and Corporate Banking was up 7% due to strength in corporate lending and underwriting fees. These gains were partially offset by an increase in PCL. Expenses ticked higher by 2%.

Revenue for Wealth Management improved 4.1% and adjusted net income was up 9%. This segment benefited from a 6% increase in Traditional Wealth. Insurance net income grew 22%. Assets under management were up 3.5% to $895 million. Expenses were up 2.7%.

Overall, the quarter was good for the Bank of Montreal. Revenue and adjusted EPS inched higher in U.S. dollars, though they were down slightly in Canadian dollars. PCL were also up considerably year-over-year, mostly on account of the ongoing pandemic. Sequentially, PCL were lower, which ate into results much less than the previous quarters.

It seems, then, that the Bank of Montreal has experienced the worst of the pandemic with its business in a pretty strong position. This is reflected in the stock's price performance so far in the second half of 2020. With this price increase comes a higher valuation.

Analysts surveyed by Yahoo Finance expect the bank to earn $6.41 in fiscal 2021. With a current share price of $74.59, the Bank of Montreal has a forward price-earnings ratio of 11.6. This compares to the forward price-earnings ratio of 6.5 that the stock had the last time I discussed the company. It is also slightly ahead of is 10-year average multiple of 11.4 times earnings.

Compared to its long-term average, the Bank of Montreal appears to be fairly valued. This is the same conclusion reached by the GuruFocus Value chart:

Bank of Montreal: More Upside After a Significant Gain?
Bank of Montreal: More Upside After a Significant Gain?

The Bank of Montreal has a GF Value of $78.41. Using the current share price, the stock has a price-to-GF Value ratio of 0.95. GuruFocus assigns a rating of fairly valued to the Bank of Montreal. Shares are about 5% below the stock's GF Value.

Add in the dividend yield of 4.2% at the GF Value and shareholders could see a total return of 9.3% from Tuesday's stock price.

Final thoughts

The Bank of Montreal's stock has had an excellent performance over the past six months or so. Shares have rallied at an impressive rate over this time, which has resulted in the stock's valuation becoming much more in-line with the long-term average.

The bank is also trading nearly in-line with its intrinsic value according to GuruFocus. Bank of Montreal's current dividend yield is 4.4%, which is a generous yield compared to the average yield of 1.6% for the S&P 500. The Bank of Montreal has also paid a continuous dividend for the past 191 years, the longest running payout record of any Canadian company.

Investors who have yet to start a position in Bank of Montreal have missed one of the best runs for the stock over the last decade. That being said, total projected returns are still in the high single-digits. Income investors will also find the dividend yield and track record appealing.

Therefore, even though the stock has outperformed my extremely bullish thesis and is much closer to its historical valuation and intrinsic value, I believe Bank of Montreal can still be bought today as long as investors have tempered expectations on near-term returns.

Author disclosure: the author has no position in any stock mentioned in this article.

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This article first appeared on GuruFocus.