Over the last quarter, Ally Financial (ALLY) has been one of the best-performing financials with a 35% gain. While the market expected massive weakness in auto loans, government stimulus actually led to record quarterly results for the predominately auto financial company. My investment thesis remains bullish on the stock still trading below tangible book value.
Records All Around
For Q3, Ally Financial smashed analyst estimates generating a Q3 EPS of $1.25. The company reported the highest earnings in its history as a public company by beating analyst estimates by a whopping $0.55 on a revenue beat of $110 million.
For a company with a revenue target of $1.57 billion, the revenue beat was impressive. Revenues were only up slightly from last year, but the company faced a weak economy and still grew revenues by nearly 4%. The big beat is in part to Other revenues growing by $71 million YoY to $484 million for 17% growth.
Ally Financial continues to make strides in moving away from a primary auto finance business. The auto business actually saw revenues nearly flat at $1.2 billion making the primary income growth due to fewer provisions for credit losses and the Other revenue growth.
The CECL loan losses from Q1 have set the financial up with a substantial reserve of $3.4 billion or 2.87% of loans. As the chart highlights, Ally Financial only had $1.3 billion of reserves at the end of 2019 for a substantial $2.3 billion increase.
Source: Ally Financial Q3’20 presentation
For Q3, the retail auto net charge-offs were only $117 million or 0.64% of auto loans and the company had total net charge-offs of $122 million. The net charge-offs were even below the loan provisions of $147 million. Despite retail auto delinquencies down at only $350 million and far below the 2019 levels, the company increased the reserves by $25 million sequentially to $3.4 billion.
All Financial had 1.3 million customers on a deferral program back in April and the vast majority of customers or 89% of the deferrals are now current or paid-in-full. The company enters Q4 without any lingering issues from COVID-19.
The economy could be hit with a second wave from the coronavirus, but Ally Financial is sitting in a strong financial position here. The company has soaring retail deposits to cover loans with retail deposits up 13% YoY to $135 billion. Even better, Ally Financial only has an average portfolio interest rate of 1.26% on these retail deposits lowering costs and reducing the risk of being reliant on less reliable and more costly financing options.
Still Perpetually Cheap
The stock is already up 35% from my original bullish call after the Q2 earnings report. Ally Financial was perpetually cheap back in July and the stock still trades far below the tangible book value of $34.60.
After today’s gains, the stock trades at ~83% of tangible book value. Based on the below chart, Ally Financial has a 5-year trend of trading right below 80% of tangible book value with a pre-COVID-19 trend of trading closer to TBV.
With a strong deposit base and a more diversified revenue base from insurance, mortgages, direct lending, and investment trading accounts, Ally Financial has less risk than perceived by the market. The company has successfully traversed the implementation of the CECL rules and the COVID-19 crisis to generate record earnings.
The case can be made for the financial stock to actually trade above book value. At the least, the stock has a 20% upside and a 3% dividend yield to offer shareholders just on a rally to current TBV levels.
The key investor takeaway is that Ally Financial is a perpetually cheap stock. The company reported strong Q3 earnings supporting the stock trading at TBV and above. Investors should continue holding the stock from a purchase back after Q2 results.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion or consult a financial advisor. Investing includes risks, including loss of principal.