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Time to Buy Fifth Third Shares, Says BAC Merrill

Stocks in this article: FITB

NEW YORK (TheStreet) -- shares of Fifth Third Bancorp (FITB) are in a "sweet spot," according to Bank of America Merrill Lynch analyst Erika Najarian, who also sees the stock as a good defensive play.

For bank stock investors, 2014 so far has brought a change of tone, with the KBW Bank Index (I:BKX) pulling back 5%, following a 35% gain in 2013 and a 30% gain during 2012.

Najarian on Thursday upgraded Fifth Third to a "buy" rating, while raising her price target for the shares to $24 from $23. The new target represents 12-month upside potential of 16% from Wednesday's closing price of $20.65.

Fifth Third's shares trade for 10.8 times the consensus 2015 earnings estimate of $1.91 a share, among analysts polled by Thomson Reuters. The consensus 2014 EPS estimate is $1.77. Najarian is out in front of the consensus, estimating Fifth Third will earn $1.85 a share this year, with EPS growing to $2.05 in 2015 and $2.40 in 2016.

"FITB trades at a 1x discount to large regional peers on P/E, despite our outlook for the company to outpace these same peers in EPS growth in '14 and '15," Najarian wrote in a note to clients Thursday.

"Additionally, investor feedback suggests a strong propensity to own banks, but recent stock action suggests reduced risk appetite... Moreover, in a market mostly fueled by multiple expansion, we believe investors will be particularly receptive to EPS upgrade stories like FITB," Najarian added.

Fourth-quarter earnings season continued the trend seen for large-cap U.S. banks over the previous two quarters, including a large decline in mortgage origination volume, as rising long-term interest rates curtailed refinance applications. Fifth Third's fourth-quarter earnings were moderately from a year earlier, although its earnings for all of 2013 rose considerably from 2012.

The bank's 2013 return on average assets was 1.48%, increasing from 1.34% the previous year, while its return on common equity rose to 13.1% in 2013 from 11.6% in 2012. Those are good numbers in the current environment. Fifth Third also showed strong growth in commercial and industrial loans, as well as credit card loans. Please see TheStreet's earnings coverage for a full review of the company's fourth-quarter results.

Looking ahead, Najarian looks for loan growth to "pick-up across the sector," with Fifth Third showing 7% year-over-year growth, ahead of a projected 5% median growth rate for large regional banks covered by her firm. "FITB has historically outperformed peers in loan growth during expansionary periods. This time around, we believe this growth outperformance should be driven by a strengthening manufacturing sector in the Midwest US and mid-corporate market share gains within its footprint," she wrote.

The bank during 2013 reduced its common shares outstanding by 3%, as it repurchased a net $912 million in shares. Najarian also expect Fifth Third to deploy a significant amount of excess capital to investors this year, with dividends and stock buybacks at 98% of earnings, "compared to 62% of peers."

"Given the recent risk-off trade, we believe that FITB offers what investors are seeking: stronger growth potential, expense management, and capital return than peers at a good value," Najarian concluded.

Shares of Fifth Third were up 1.2% in early trading Thursday, to $20.90.

This chart shows the stock's performance against the KBW Bank Index and the S&P 500 ^GSPC since the end of 2011:

FITB Chart data by YCharts

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Philip W. van Doorn is a member of TheStreet's banking and finance team, commenting on industry and regulatory trends. He previously served as the senior analyst for TheStreet.com Ratings, responsible for assigning financial strength ratings to banks and savings and loan institutions. Mr. van Doorn previously served as a loan operations officer at Riverside National Bank in Fort Pierce, Fla., and as a credit analyst at the Federal Home Loan Bank of New York, where he monitored banks in New York, New Jersey and Puerto Rico. Mr. van Doorn has additional experience in the mutual fund and computer software industries. He holds a bachelor of science in business administration from Long Island University.

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