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Investment Bank Industry's Near-Term Prospects Look Bleak

Priti Dhanuka

The Zacks Investment Bank industry consists of U.S. firms that provide various financial products and services, including advisory-based financial transactions to corporations, governments and financial institutions worldwide. These institutions began as partnership firms focused on initial public offerings (IPOs), and secondary market offerings, brokerage, and mergers and acquisitions. The firms have evolved into providers of various services, including securities research, proprietary trading, and investment management.

These firms work mainly through three product segments — investment banking (which includes mergers and acquisitions, advisory services and securities underwriting), asset management, and trading and principal investments (which covers proprietary and brokerage trading).

An advisor providing investment banking services in the United States must carry a broker-dealer license and abide by U.S. Securities and Exchange Commission (SEC) and Financial Industry Regulatory Authority (FINRA) regulations.

The passage of the Dodd-Frank Act of 2010 post the 2008 financial crisis put restrictions on certain investment banking activities, such as proprietary trading. However, considering the need for better business flexibility in the current economic scenario, these restrictions are being eased.

Here are the three major themes in the industry:

  • Client activity in the trading business depends on the prevalent macroeconomic and geopolitical conditions. Despite strong equity markets and a rise in Treasury bonds, low volumes and reduced client activity were witnessed over the past few months, partly on the U.S. government shutdown and other economic uncertainties. However, an expected rebound in economy and resilient investor sentiment might keep the trading business momentum alive in the quarters ahead.
     
  • M&A activities (an important part of investment banking business) along with IPOs are expected to continue improving backed by economic growth, sturdy equity markets and increasing corporate earnings due to tax reforms. However, the Fed’s dovish monetary policy, ongoing political and economic issues related to Brexit, concerns related to unsolved U.S.-China trade deal negotiations, the U.S. government shutdown and expectation of global economic slowdown hampered investment banking activities in the first few months of 2019, which might improve on rebounding conditions.
     
  • Innovative trading platforms, investments in technology and advertising are projected to support the overall backdrop for investment banks. Firms are emphasizing on attracting and retaining the best talent for building a leadership team and spending on technology in order to support clients with the development of infrastructure and new platforms.


Zacks Industry Rank Indicates Cloudy Prospects

The group’s Zacks Industry Rank, which is basically average of the Zacks Rank of all the member stocks, indicates bleak near-term prospects.

The Zacks Investment Bank industry currently carries a Zacks Industry Rank #153, which places it in the bottom 40% of more than 250 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of bleak earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually losing confidence in this group’s earnings growth potential. Since April 2018, the industry’s earnings estimates for the current year have moved 9.9% lower.

Before we present a few stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock-market performance and valuation picture.

Industry Underperforms Sector & S&P 500

The Zacks Investment Bank industry, a 20-stock group within the broader Zacks Finance Sector, has underperformed both the S&P 500 and its own sector over the past two years.

While the stocks in this industry have collectively gained around 0.4%, the Zacks S&P 500 composite and the Zacks Finance sector have rallied 22.8% and 7.5%, respectively.



Two-Year Price Performance




 

Industry’s Valuation

One might get a good sense of the industry’s relative valuation by looking at its price-to-tangible book ratio (P/TBV), which is the most appropriate multiple for valuing finance companies because of large variations in their earnings results from one quarter to the next.  
   
The industry currently has a trailing 12-month P/TBV of 2.29X, below the median level of 2.38X, over the past five years. This compares with the highest level of 3.27X and lowest level of 1.58X over this period.

However, the industry is trading at a discount when compared with the market at large, as the trailing 12-month P/TBV ratio for the S&P 500 is 11.13X and the median level is 7.93X.



Price-to-Tangible Book Ratio (TTM)



The Zacks Finance sector’s trailing 12-month P/TBV ratio of 3.00X and the median level of 3.07X for the same period are above the Zacks Investment Bank industry’s respective ratios.



Price-to-Tangible Book Ratio (TTM)



Bottom Line

The investment banking business is likely to prosper on increased IPO and M&A activities. Nonetheless, market-volatility driven growth in trading business may not continue for long, as volatility might wane once global and domestic economy issues stabilize. Also, expenses on technology and business diversification might curb top-line growth in the coming period.

One should particularly consider betting on investment bank and broker stocks that depict an upbeat earnings outlook. We are presenting one stock, which sports a Zacks Rank #1 (Strong Buy), and two stocks carrying a Zacks Rank #2 (Buy) that investors may consider betting on.

(You can see the complete list of today’s Zacks #1 Rank stocks here)

Raymond James Financial, Inc. (RJF): The stock of this St. Petersburg, FL-based bank has gained 9.6%, in the past three months. The Zacks Consensus Estimate for current fiscal year EPS moved 2.4% north in 60 days’ time. The stock currently sports a Zacks Rank #1.


Price and Consensus: RJF

Stifel Financial Corporation (SF): The stock of this St. Louis, MO-based bank has appreciated 24.1%, in the past three months. The Zacks Consensus Estimate for the current-year EPS was revised 2.6% upward in the last 60 days. The stock currently carries a Zacks Rank of 2.


Price and Consensus: SF

Ladenburg Thalmann Financial Services Inc (LTS): The consensus EPS estimate for this Miami, FL-based bank moved up 28.6% for the current year, over the last 60 days. This Zacks #2 Ranked stock has gained 0.3% in the past three months.


Price and Consensus: LTS

Zacks' Top 10 Stocks for 2019

In addition to the stocks discussed above, would you like to know about our 10 finest buy-and-holds for the year?

Who wouldn't? Our annual Top 10s have beaten the market with amazing regularity. In 2018, while the market dropped -5.2%, the portfolio scored well into double-digits overall with individual stocks rising as high as +61.5%. And from 2012-2017, while the market boomed +126.3, Zacks' Top 10s reached an even more sensational +181.9% .

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Stifel Financial Corporation (SF) : Free Stock Analysis Report
 
Raymond James Financial, Inc. (RJF) : Free Stock Analysis Report
 
Ladenburg Thalmann Financial Services Inc (LTS) : Free Stock Analysis Report
 
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