After Locking Up Scandal, Wells Fargo Vaults Ahead

Fears of a global economic slowdown have yet to appear, evident by the recent earnings reports of high-quality U.S. banks. Wells Fargo is a good example, as the financial services institution continues to fire on all cylinders, recovering from the fake accounts scandal of a few years back, and growing earnings at a double-digit rate. Wells Fargo is sharing its renewed success with shareholders, having recently announced a 13% dividend increase and approved up to $23 billion of share repurchases over the next year. Through dividends and buybacks, Wells Fargo has one of the highest shareholder yields in the S&P 500 Index. With a 4.2% dividend yield and a long runway of earnings growth ahead --through revenue growth and share repurchases -- Wells Fargo is among the best mega-cap stocks for dividend growth investors. Earnings Roundup Founded in 1852, the bank provides banking, investments, mortgages, as well as commercial financing products through more than 8,000 locations in 42 countries. It has nearly $2 trillion in assets and generates $83 billion in annual revenue. The stock has a market capitalization of $214 billion. Just recently reporting second-quarter financial results on July 16, Wells Fargo beat expectations for both the top and bottom line. Revenue was $21.6 billion, essentially flat with last year's second quarter, but above analyst expectations by $650 million. Net interest income came to $12.1 billion, which was down $446 million against last year's second quarter. But noninterest income came to $9.5 billion, a gain of $477 million year-over-year. Management cited balance sheet mix and repricing as factors, including higher deposit costs and lower lending rates. Earnings per share rose 32% to $1.30 for the second quarter, and also beat estimates by 12 cents per share. One negative aspect for U.S. banks, including Wells Fargo, are interest rates. Rates have declined over the past few months, as the Federal Reserve is likely to reduce the Fed Funds rate to spur stronger economic growth. While this could help keep the U.S. economy on a positive Gross Domestic Product path going forward, it is a negative headwind for banks, which actually benefit from higher rates. When interest rates are rising, rates on loans, such as mortgages and auto loans, typically increase at a higher rate than rates on certificate of deposit and other deposits. As a result, higher rates help expand banks' net interest margins. But the opposite is also true, and falling interest rates negatively impacts banks' profitability. Second-quarter net interest margin was 2.82%, down from 2.93% year-over-year, reflecting Wells Fargo's struggles with the current rates. Average loans were essentially flat in the quarter at $948 billion. Total deposits were also virtually flat at $1.3 trillion. Lower wealth management deposits were offset by stronger retail banking deposits, reflecting increased promotional activity. Net charge-offs were up slightly and so were credit loss provisions, but both remain very low. This is a positive indication that the U.S. economy and consumer remain financially healthy. Wells Fargo returned $6.1 billion to shareholders in dividends and share repurchases in the second quarter, made possible by the company's strong business model and profitability. Wells Fargo's common equity tier 1 ratio, or CET1, was a robust 12%, well in excess of regulatory minimums. Bank on Massive Cash Returns Despite facing challenging interest rate levels, Wells Fargo has a positive growth outlook. Revenue can still grow, thanks to rising loans and deposits, as the bank benefits from a strong U.S. economy. If the Fed's actions on interest rates keep the U.S. economy out of recession, Wells Fargo will still be a big beneficiary, as banks are closely tied to the health of the broader economy. In addition, earnings on a per-share basis will get a big boost from Wells Fargo's aggressive share repurchases. Along with first-quarter earnings, Wells Fargo notified investors that the Federal Reserve had no objection to its 2019 Capital Plan, which covers the most recent quarter through the 2020 second quarter. Wells Fargo, as well as all other systemically important banks, submit their capital allocation plans each year as part of the Federal Reserve's Comprehensive Capital Analysis and Review (CCAR). With no objection from the Federal Reserve, Wells Fargo can proceed with its plan to raise its dividend by 13% and approve up to $23.1 billion in common stock repurchases. Based on the current market cap of $214 billion, Wells Fargo's buyback represents nearly 11% of the company's entire market cap. This means, all else being equal, Wells Fargo's stock repurchases could boost earnings per share by nearly 11% over the next year. In addition to buybacks, Wells Fargo is returning more cash to shareholders via dividends. The new quarterly dividend rate of 51 cents per share represents an annualized payout of $2.04 per share. Wells Fargo stock yields 4.2%, more than double the average dividend in the S&P 500 Index. And, even with the recent 13% dividend hike, Wells Fargo still has a well-covered payout. Wells Fargo has a projected dividend payout ratio below 50% for 2019, which gives plenty of room for continued dividend growth. Wells Fargo is also an undervalued stock. In the past decade, shares traded for an average price-to-earnings ratio of 12. Based on analysts' expected earnings per share of $4.80 for 2019, Wells Fargo stock has a price-to-earnings ratio of just 10. As a result, shareholders could see positive returns from an expanding valuation multiple, in addition to earnings growth and dividends. Wells is Back The U.S. economy continues to expand at a modest pace, giving large banks a positive economic backdrop that is broadly supportive of growth. After a few difficult years, marked by the fake accounts scandal, Wells Fargo is back in a major way. The bank is reporting high earnings per share growth, and is rewarding shareholders with cash returns. The stock is not expensive, giving investors a chance to purchase this high-quality bank stock at a discount. The combination of these factors makes Wells Fargo an attractive stock for value and income investors.

After Locking Up Scandal, Wells Fargo Vaults Ahead

Bank shows strong earnings, 13% dividend Increase and 4.2% yield.

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