Market Bites

Ahead of the Curve | Friday, 9th July 2021

US 10-Year Treasury yields fall as Delta variant concerns emerge, creating volatility and opportunity.
Emerging concerns over the Delta variant have been causing investors to question the strength of the economic recovery, sending US 10-Year Treasury yields sharply lower. This has created significant volatility in markets, which we believe is normal after a period of sustained strength as vaccines were rolled out and economies reopened. While the rise in cases is concerning, in the case of the UK, where cases have risen the most, hospitalizations remain very low. In addition, studies conducted in the UK, Canada, and Singapore point to the Pfizer, Moderna, and Astra Zeneca vaccines being over 90% effective against severe cases. As a result, we believe the Delta variant will not derail the reopening, and that the current volatility presents an opportunity for investors. We have been adding to high quality names where the recent price action does not reflect the strong underlying fundamentals.

Looking for quality in US insurance amidst the selloff.
The recent volatility has unearthed some highly compelling opportunities in the US insurance space. Equitable (EQH), which owns 65% of the US asset manager Alliance Bernstein (AB), now trades at just over 2x earnings when we strip out the value and earnings contribution from AB. In our view this dramatically undervalues the remaining businesses, which include a well-hedged annuity book and a highly profitable group retirement platform. The company has also de-risked its balance sheet and will be buying back ~$1.5 bn or 12% of market cap this year. We see nearly 50% upside to fair value here – this could come quickly if the company optimizes its holding of AB and repurchases its stock more aggressively. Separately, VOYA is another high-quality name that has gone on sale. The stock trades on a free cash flow yield of >10% and will be aggressively deploying its significant pile of excess capital – we expect over 25% of the market cap to be repurchased between 2021 and 2022. Their high-growth mix of asset management, retirement, and group benefits warrants a much higher multiple than 7x (adjusted for its large deferred tax asset), and in our view is one of the most attractive acquisition candidates in all of US financials. In a takeout, we think $85 (or 11x pre-synergies) is more than fair and represents over 40% upside from current levels.

Another quality European franchise on sale.
Another opportunity to acquire quality franchises at great prices which stands out is UBS, which has de-rated despite net interest income only accounting for 18% of revenues, and the US accounting for 36% of revenues. Now trading at 1.0x tangible book value, the bank is firing on all cylinders, printing an ROTE of 14% as its investment bank benefits from strong capital markets activity. In addition its leading global wealth and asset management franchise is seeing robust inflows, growing at a 6% annualized rate during the quarter. The attractive valuation is underscored by the substantial 33% P/E discount it trades at on 2022 earnings relative to Morgan Stanley, which shares a similar business mix and growth profile.

More M&A in the Europe & US banking sector.
Santander recently announced plans to acquire the outstanding 20% minority stake in its US subsidiary, Santander Consumer USA (“SCUSA”). SCUSA is a leading provider of auto loans in the US, performing well on strong auto loan originations, fading concerns on asset quality as used car prices skyrocket, and a significant buildup of excess capital ready to be returned to shareholders. The transaction will be 4% accretive to earnings, and while not transformational, should highlight the strength of Santander’s subsidiaries. This is clearly not being reflected in the valuation today, as excluding the publicly listed value of Stander’s subsidiaries, the stock trades on just 3.5x 2022 earnings. Low valuations and strong operating performance with a catalyst to boot are a great combination in our view.

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