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Fifth Third Bancorp Is Jefferies' Favorte Bank Stock for 2014

NEW YORK (TheStreet) -- Fifth Third Bancorp (FITB - Get Report) is well positioned to ride the Midwest economic recovery, has "further room to cut costs," and is primed for a significant return of capital to investors next year, while trading at a discount to peers, according to Jefferies analyst Ken Usdin.

Jefferies on Wednesday rolled out its "Franchise Picks," representing "the highest conviction, Buy-rated ideas from the Jefferies US Research Team."

Fifth Third of Cincinnati is the only bank stock included on the list.  The bank's shares closed at $20.15 Tuesday, returning 35% this year.  The shares trade for 1.7 times tangible book value, according to Thomson Reuters Bank Insight, for 11.6 times the consensus 2014 earnings estimate of $1.74 a share, and for 10.7 times the consensus 2015 EPS estimate of $1.88.

Based on his firm's 2015 EPS estimate of $1.90, Jefferies analyst Ken Usdin on Wednesday wrote in a report that "FITB stands one P/E multiple point below the average large regional bank in our coverage," and that the bank's valuation had been held down because of its exposure to declining mortgage loan application volume.

Fifth Third's third-quarter revenue dropped to $121 million in the third quarter, from $233 million the previous quarter and $200 million a year earlier, reflecting the industry conditions as the rise in long-term interest rates curtailed the wave of mortgage loan refinancing activity.

Despite the mortgage revenue decline, Fifth Third in October was included in KBW's list of large-cap banks showing the greatest year-over-year revenue growth, leaving out one-time items.

"After a reset in the origination market in 3Q13, mortgage fees now represent about 6% of total revenues and are approaching a bottom on a quarterly run-rate basis," for Fifth Third, according to Usdin. "We believe this reset and the company's approach to quickly remove costs from the business are important changes for the psychology on the stock," he wrote.

Usdin expects Fifth Third to continue cutting costs in its mortgage operations, and that the company has "strong capital return potential" heading into the Federal Reserve's next round of stress tests and capital plan reviews for large banks in March 2014. Jefferies expects the bank to be approved by the Fed to raise its quarterly dividend on common shares by a penny to 13 cents in the second quarter, to buy back between $800 million and $900 million in common shares through the first quarter of 2015, and be approved to use any gains on the sale of Vantiv (VNTV - Get Report) shares for additional buybacks.

Vantiv is Fifth Third's former payment processing subsidiary, which the bank spun-off through a public offering in April 2012.  Fifth Third during the third quarter booked an $85 million gain on the sale of Vantiv shares, which came to $55 million after tax, or 6 cents a share.  The bank also realized a gain of $4 million after tax on the valuation of a warrant it holds to purchase Vantiv shares.  Fifth Third said its remaining ownership interest in Vantiv was worth about $1.4 billion as of Sept. 30, with the warrant worth an additional $293 million.

Usdin's price target of $23 for Fifth Third's stock assumes the "Fed remains on hold until mid-'15."  By this he means the Federal Reserve doesn't raise the target range for the short-term federal funds rate until the middle of 2015.

Most investors on Wednesday will be much more focused on the Federal Reserve's "QE3" purchases of long-term U.S. Treasury bonds and agency mortgage-backed securities, which have been running at a net pace of $85 million a month since September 2012. 

The Federal Open Market Committee on Wednesday concludes its two-day policy meeting, after which outgoing Federal Reserve chairman Ben Bernanke at an afternoon press conference will discuss any changes in the central bank's stimulus policy.  Most economists expect the Fed to begin tapering its bond purchases early next year, although the Fed could have a surprise in store for Wednesday, in light of the continued flow of positive economic reports.

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